ITEM 1. BUSINESS.
CERTAIN OF THE INFORMATION CONTAINED IN THIS FORM 10-K, INCLUDING THE DISCUSSION WHICH FOLLOWS IN THIS ITEM 1 OF THE COMPANY'S PLANS AND STRATEGIES FOR ITS BUSINESS AND RELATED FINANCING, AND THE MANAGEMENT'S DISCUSSION AND ANALYSIS FOUND IN ITEM 7 OF THIS REPORT, CONTAIN FORWARD- LOOKING STATEMENTS. FOR A DISCUSSION OF IMPORTANT FACTORS THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM SUCH FORWARD-LOOKING STATEMENTS, PLEASE CAREFULLY REVIEW THE DISCUSSION OF RISK FACTORS CONTAINED IN THIS ITEM 1, AS WELL AS THE OTHER INFORMATION CONTAINED IN THIS REPORT AND IN THE COMPANY'S PERIODIC REPORTS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION (THE "SEC" OR "COMMISSION").
ACC Corp. is a switch-based provider of telecommunications services in the United States, Canada and the United Kingdom. The Company primarily provides long distance telecommunications services to a diversified customer base of businesses, residential customers and educational institutions. As a result of recent regulatory changes, ACC has begun to provide local telephone service as a switch-based local exchange reseller in upstate New York and as a reseller of local exchange services in Ontario, Canada. ACC operates an advanced telecommunications network consisting of seven long distance international and domestic switches located in the U.S., Canada and the U.K., a local exchange switch located in the U.S., leased transmission lines, and network management systems designed to optimize traffic routing.
The Company's objective is to grow its long distance telecommunications customer base in its existing markets and to establish itself in deregulating Western European markets that have high density telecommunications traffic, such as France and Germany, when the Company believes that business and regulatory conditions warrant. The key elements of the Company's business strategy are: (1) to broaden ACC's penetration of the U.S., Canadian and U.K. telecommunications markets by expanding its long distance, local and other service offerings and geographic reach; (2) to utilize ACC's operating experience as an early entrant in deregulating markets in the U.S., Canada and the U.K. to penetrate other deregulating telecommunications markets that have high density telecommunications traffic; (3) to achieve economies of scale and scope in the utilization of ACC's network; and (4) to seek acquisitions, investments or strategic alliances involving assets or businesses that are complementary to ACC's current operations.
The Company's principal competitive strengths are: (1) ACC's sales and marketing organization and the customized service ACC offers to its customers; (2) ACC's offering of competitive prices which the Company believes generally are lower than prices charged by the major carriers in each of its markets; (3) ACC's position as an early entrant in the U.S., Canadian and U.K. markets as an alternative carrier; (4) ACC's focus on more profitable international telecommunications traffic between the U.S., Canada and the U.K.; and (5) ACC's switched-based networking capabilities. The Company believes that its ownership of switches reduces its reliance on other carriers and enables the Company to efficiently route telecommunications traffic over multiple leased transmission lines and to control costs, call record data and customer information. The availability of existing transmission capacity in its markets makes leasing of transmission lines attractive to the Company and enables it to grow network usage without having to incur the significant capital and operating costs associated with the development and operation of a transmission line infrastructure.
ACC primarily targets business customers with approximately $500 to $15,000 of monthly usage, selected residential customers and colleges and universities. The Company believes that, in addition to being price-driven, these customers tend to be focused on customer service, more likely to rely on a single carrier for their telecommunications needs and less likely to change carriers than larger commercial customers. The diversity of ACC's targeted customer base enhances network utilization by combining business- driven workday traffic with night and weekend off-peak traffic from student and residential customers. The Company strives to be more cost effective, flexible, innovative and responsive to the needs of its customers than the major carriers, which principally focus their direct sales efforts on large commercial accounts and residential customers.
The Company was originally incorporated in New York in 1982 under the name A. C. Teleconnect Corp. and was reincorporated in Delaware in 1987 under the name ACC Corp. As used herein, unless the context otherwise requires, the ''Company'' and ''ACC'' refer to ACC Corp. and its subsidiaries, including ACC Long Distance Corp. (''ACC U.S.''), ACC TelEnterprises Ltd., the Company's 70% owned Canadian subsidiary (''ACC Canada''), and ACC Long Distance UK Limited (''ACC U.K.''). The Company's principal executive offices are located at 400 West Avenue, Rochester, New York 14611 and its telephone number at that address is (716) 987-3000.
In this Report, references to ''dollar'' and ''$'' are to United States dollars, references to ''Cdn. $'' are to Canadian dollars, references to '''' are to British pounds sterling, the terms ''United States'' and ''U.S.'' mean the United States of America and, unless the context otherwise requires, its states, territories and possessions and all areas subject to its jurisdiction, and the terms ''United Kingdom'' and ''U.K.'' mean England, Scotland and Wales.
For certain financial information concerning the Company's foreign and domestic operations, see Note 9 to the Consolidated Financial Statements in Item 8 of this Report.
INDUSTRY OVERVIEW
The global telecommunications industry has dramatically changed during the past several years, beginning in the U.S. with AT&T Corp.'s ("AT&T") divestiture of its 22 regional operating companies ("RBOCs") in 1984 and culminating with the recently enacted amendments to the U.S. Communications Act of 1934 (the "U.S. Communications Act"), and continuing in Canada, the U.K. and other countries with various regulatory changes. Previously, the long distance telecommunications industry in the U.S., Canada and the U.K. consisted of one or a few large facilities-based carriers, such as AT&T, Bell Canada and British Telecommunications PLC ("British Telecom"). As a result of the AT&T divestiture and the recent legislative changes in the U.S. and fundamental regulatory changes in Canada and the U.K., coupled with technological and network infrastructure developments which increased significantly the voice and data telecommunications transmission capacity of dominant carriers, the long distance industry has developed into a highly competitive one consisting of numerous alternative long distance carriers in each of these countries. In addition, since the AT&T divestiture in 1984, competition has heightened in the local exchange market in the U.S. and Canada. The Company anticipates that deregulatory and economic influences will promote the development of competitive telecommunications markets in other countries.
LONG DISTANCE MARKET. The U.S. long distance market has grown to approximately $67 billion in annual revenues during 1994, according to Federal Communications Commission ("FCC") estimates. AT&T has remained the largest long distance carrier in the U.S. market, retaining slightly more than 55% of the market, with MCI Telecommunications Corporation ("MCI") and Sprint Corp. ("Sprint") increasing their respective market shares to approximately 17% and 10% of the market during 1994. AT&T, MCI and Sprint constitute what generally is regarded as the first tier in the U.S. long distance market. Large regional long distance companies, some with national capabilities, such as WorldCom, Inc. (formerly LDDS Metromedia Communications, Inc.) ("WorldCom"), Cable & Wireless Communications, Inc., Frontier Corp. and LCI International, constitute the second tier of the industry. The remainder of the U.S. long distance market share is comprised of several hundred smaller companies, including ACC U.S., known as third- tier carriers. In addition, recent U.S. legislation, which removes certain long-standing restrictions on the ability of the RBOCs to provide long distance services, will have a substantial impact on the long distance market.
Since 1990, competition has existed in the Canadian long distance market. The Canadian long distance market is dominated by a consortium of facilities-based local and long distance telephone companies (E.G., Bell Canada, BC Tel, Maritime Tel) operating as the ''Stentor'' group of companies. A second group of long distance providers, consisting principally of Unitel Communications Inc. ("Unitel"), Sprint Canada (a subsidiary of Call-Net Telecommunications Inc.) and fONOROLA Inc., own and operate transmission lines through which they provide long distance voice and data services in the Canadian markets. Other long distance providers, including ACC Canada, generally lease transmission lines through which they resell long distance services in the Canadian market.
The international, national and local markets for voice telephone services in the U.K. and Northern Ireland accounted for approximately 1.4 billion, 2.1 billion and 2.2 billion, respectively, in revenues during the 12 months ended March 31, 1995, accordingly to estimates from The Office of Telecommunications ("Oftel"), the U.K. telecommunications regulatory authority. In the U.K., British Telecom historically has dominated the telecommunications market. British Telecom was the largest carrier during such 12 month period, with approximately 69%, 83% and 94% of the revenues from international, national and local voice telephone services, respectively. Mercury Communications Ltd. ("Mercury"), which owns and operates interexchange transmission facilities, is the second largest carrier of voice telecommunications in the U.K. The remainder of the U.K. long distance market is comprised of an emerging market of licensed public telephone operators, such as Energis Communications Ltd., (''Energis'') and switched-based resellers such as ACC U.K., AT&T, WorldCom, Esprit Telecom of the U.K. Ltd. (''Esprit'') and Sprint.
Long distance carriers in the U.S., Canada and the U.K. can be categorized by several distinctions. One distinction is between transmission facilities-based companies and non-transmission facilities- based companies, or resellers. Transmission facilities-based carriers, such as AT&T, Bell Canada and British Telecom, own their own long distance interexchange or transmission facilities and originate and terminate calls through local exchange systems. Profitability for transmission facilities- based carriers is dependent not only upon their ability to generate revenues but also upon their ability to manage complex networking and transmission costs. All of the first- and most of the second-tier long distance companies in the U.S. markets are transmission facilities-based carriers and generally offer service nationwide. Most transmission facilities-based carriers in the third tier of the market offer their service only in a limited geographic area. Some transmission facilities- based carriers contract with other transmission facilities-based carriers to provide transmission where they have geographic gaps in their facilities. Switched-based resellers, such as the Company, carry their long distance traffic over transmission lines leased from transmission facilities-based carriers, originate and terminate calls through local exchange systems or "competitive access providers" ("CAPs") such as Teleport or MFS Communications Co., Inc. ("MFS"), and contract with transmission facilities-based carriers to provide transmission of long distance traffic either on a fixed rate lease basis or a call volume basis. Profitability for non-transmission facilities-based carriers is dependent largely on their ability to generate and retain sufficient revenue volume to negotiate attractive pricing with one or more transmission facilities- based carriers.
A second distinction among long distance companies is that of switch- based versus switchless resellers. Switch-based resellers, such as the Company, have one or more switches, which are computers that direct telecommunications traffic to form a transmission path between a caller and the recipient of a call. All transmission facilities-based carriers are switch-based carriers, as are many non-transmission facilities-based carriers, including ACC. Switchless resellers depend on one or more transmission facilities-based carriers or switch-based resellers for transmission and switching facilities. The Company believes that its ownership of switches reduces its reliance on other carriers and enables the Company to efficiently route telecommunications traffic over multiple leased transmission lines and to control costs, call record data and customer information. The availability of existing transmission capacity in its markets makes leasing of transmission lines attractive to the Company and enables it to grow network usage without having to incur the significant capital and operating costs associated with the development and operation of a transmission line infrastructure.
LOCAL EXCHANGE MARKET. In the U.S., the existing structure of the telecommunications industry principally resulted from the AT&T divestiture. As part of the divestiture, seven RBOCs were created to offer services in specified geographic areas called Local Access and Transport Areas ("LATAs"). The RBOCs were separated from the long distance provider, AT&T, resulting in the creation of distinct local exchange and long distance markets. Since the AT&T divestiture, several factors have served to promote competition in the local exchange market, including (i) the local exchange carriers' monopoly position, which provided little incentive for the local exchange companies to reduce prices, improve service or upgrade their networks, and related regulations which required the local exchange carriers to, among other things, lease transmission facilities to alternative carriers, such as the Company, (ii) customer desire for an alternative to the local exchange carriers, which developed in part as a result of competitive activities in the long distance market and increasing demand for lower cost, high quality, reliable services, and (iii) the advancement of fiber optic and digital electronic technology, which combined the ability to transmit voice, data and video at high speeds with increased capacity and reliability.
During the past several years, regulators in some states and at the federal level have issued rulings which favored competition and promoted the opening of markets to new entrants. These rulings have allowed competitive access providers of telecommunications services to offer a number of new services, including, in certain states, a broad range of local exchange services. The Company believes the trend toward increased competition and deregulation of the telecommunications industry is continuing, and will be accelerated by the recently enacted U.S. legislation.
In Canada, similar factors promoting competition in the local exchange market developed in response to regulatory developments in the Canadian long distance telecommunications market and to technological advances in the telecommunications industry. The Canadian Radio-television and Telecommunications Commission ("CRTC") has approved, in concept, the reduction of the remaining restrictions on local exchange services in Canada and a proceeding is being conducted to determine the appropriate timetable and terms for implementation of its decision.
BUSINESS STRATEGY
The Company was an early entrant as an alternative carrier in the U.S., Canada and the U.K. The Company's objective is to grow its telecommunications customer base in its existing markets and to establish itself in other deregulating Western European markets with high density telecommunications traffic. The key elements of the Company's business strategy are to increase penetration of existing markets, enter new markets, improve operating efficiency, and pursue acquisitions, investments and strategic alliances.
INCREASE PENETRATION OF EXISTING MARKETS. ACC's consolidated revenue and customer accounts have grown from $105.9 million and 98,400 to $188.9 million and 310,815, respectively, over the three fiscal years ended December 31, 1995, although the Company expects its growth to decrease over time. The Company plans to increase further its revenue and customer base in the U.S., Canadian and U.K. markets by expanding its service offerings and geographic reach. The expansion of the Company's service offerings is designed to reduce the effects of price per minute decreases for long distance service and to decrease the likelihood that customers will change telecommunications carriers. Through this strategy, the Company will seek to build a broad base of recurring revenues in the U.S., Canada and the U.K. The Company also intends to offer local telephone services in selected additional U.S. and Canadian markets, initially in New York, Massachusetts and Ontario, as well as additional data communications services in the U.S. and Canada. The Company believes that offering local services will enhance its ability to attract and retain long distance customers and reduce the Company's access charges as a percentage of revenues. In addition, the Company is conducting feasibility studies to identify the market potential and regulatory environment for adding or expanding distribution of video conferencing, paging, domestic and international call back, Internet access, smart card, facsimile and frame relay services in certain of its targeted markets, and plans to introduce certain of those services in selected markets during 1996.
ENTER NEW MARKETS. The Company believes that its operating experience in deregulating markets in the U.S., Canada and the U.K. and its experience as an early entrant as an alternative carrier in those markets will assist ACC in identifying opportunities in other deregulating countries with high density telecommunications traffic. In particular, the Company believes that its position in the U.S., Canadian and U.K. telecommunications markets and its experience in providing international telecommunications service will assist it in establishing a presence in France and Germany and other countries when the Company believes that business and regulatory conditions warrant.
IMPROVE OPERATING EFFICIENCY. The Company strives to achieve economies of scale and scope in the use of its network, which consists of leased transmission facilities, seven international and domestic switches, a local exchange switch and information systems. In order to enhance the efficiency of the fixed cost elements of its network, the Company seeks to increase its traffic volume and balance business-driven workday traffic with night and weekend off-peak traffic from student and residential customers. The Company anticipates that competition among transmission facilities-based providers of telecommunications services in the U.S. and Canadian markets will afford ACC opportunities for reductions in the cost of leased line facilities. The Company seeks to reduce its network cost per billable minute of use by more than any reduction in revenue per billable minute. The Company also intends to acquire additional switches and upgrade its existing switches to enhance its network in anticipation of growth in the Company's customer base and provide additional telecommunications services. The Company believes that its network switches enable the Company to efficiently route telecommunications traffic over multiple transmission facilities to reduce costs, control access to customer information and grow network usage without a corresponding increase in support costs.
PURSUE ACQUISITIONS, INVESTMENTS AND STRATEGIC ALLIANCES. As the Company expands its service offerings and its network, the Company anticipates that it will seek to develop strategic alliances both domestically and internationally and to acquire assets and businesses or make investments in companies that are complementary to the Company's current operations. The Company believes that the pursuit of an active acquisition strategy is an important means toward achieving growth and economies of scale and scope in its targeted markets. Through acquisitions, the Company believes that it can further increase its traffic volume to further improve the usage of the fixed cost elements of its network.
SERVICES
COMMERCIAL LONG DISTANCE SERVICES. The Company offers its commercial customers in the U.S. and Canada an array of customized services and has developed a similar range of service offerings for commercial customers in the U.K.
In the U.S., although the Company historically has originated long distance voice services principally in New York and Massachusetts, ACC is currently authorized to originate long distance voice and data services in 44 states. The Company's U.S. services include ''1+'' inter-LATA long distance service, and private line service for which a customer is charged a fixed monthly rate for transmission capacity that is reserved for that customer's traffic. The Company's U.S. business services also include toll- free ''800'' or ''888'' services. In addition, the Company currently provides intra-LATA service in certain areas for customers who make a large number of intra-LATA calls. The Company installs automatic dialing equipment to enable customers to place such calls over the Company's network without having to dial an access code. However, various states, including New York, are moving to implement ''equal access'' for intra-LATA toll calls such that the Company's customers in such jurisdictions will be able to use the Company's network on a ''1 +'' basis to complete intra-LATA toll calls. The Company's ability to compete in the intra-LATA toll market depends upon the margin which exists between the access charges it must pay to the local exchange company for originating and terminating intra-LATA calls, and the retail toll rates established by the local exchange carriers for the local exchange carriers' own intra-LATA toll service. The Company's commercial services generally are priced below the rates charged by the major carriers for similar services and are competitive with those of other carriers. See the Risk Factor discussion of "Increasing Domestic and International Competition'' in this Item 1 below.
In Canada, ACC currently originates long distance voice and data services in the Montreal, Toronto and Vancouver metropolitan areas as well as throughout Alberta, British Columbia, Manitoba, New Brunswick, Nova Scotia, Ontario and Quebec. The Company offers its Canadian commercial customers both voice and data telecommunications services. The Company's long distance voice services are offered to its business customers in a nine-level discount structure marketed under the name ''Edge.'' Discounts are based on calling volume and call destination and typically result in savings ranging from 10% to 20% when compared to Stentor member rates. Calls to the U.S. are priced at a flat rate regardless of the destination and international calls are priced at a percentage discount to the rates charged by the Stentor group. The Company also offers toll-free ''800'' services within Canada, as well as to and from the U.S., and offers an ACC Travel Card providing substantial savings off Stentor member ''Calling Card'' rates. ACC Canada has introduced a frame relay network and Internet access services and now provides these services in all provinces except Saskatchewan and Newfoundland.
ACC originates long distance voice services throughout the U.K. The Company presently offers its U.K. customers voice telecommunications services. These services include indirect access (known as ''ACCess 1601'') through the public switched telephone network (''PSTN'') and the use of direct access lines to the Company's network (known as ''ACCess Direct'') for higher-volume business users. Because ACCess 1601 is a mass market service, the prices offered are built around a standard price list with volume discounts for high-volume users. ACCess Direct is generally cost effective only for customers making at least 5,000 per month in calls.
The Company's U.S. and Canadian commercial customers are offered customized services, such as comprehensive billing packages and its ''Travel Service Elite'' domestic calling cards, which allow the customer to place long distance calls at competitive rates from anywhere in the U.S. and Canada. The Company's standard monthly statement includes a management summary report, a call detail report recording every long distance call and facsimile call, and a pricing breakdown by call destination. Optional calling pattern reports, which are available at no extra cost, include call summaries by account code, area or city code, LATA (for U.S. bound calls), international destination and time-of-day. This information is available to customers in the form of hard copy, magnetic tape or disk.
In the U.S., the Company is conducting feasibility studies to identify the market potential and regulatory environment for offering additional services, including video conferencing, paging, international call back, Internet access, facsimile and frame relay services, and expects to introduce Internet access, enhanced travel cards and video conferencing in 1996. In Canada, the Company plans to expand frame relay and Internet access services in 1996. In the U.K., the Company is also considering additional service offerings, including teleconferencing, voice mail, calling cards, call-back and smart card services and plans to introduce Internet access and prepaid calling cards in 1996.
UNIVERSITY PROGRAM. The Company's university program offers a variety of telecommunications services to educational institutions ranging from long distance service for administration and faculty, to integrated on- campus services, including local and long distance service, voice mail, intercom calling and operator services for students, administrators and faculty. The Company's sales, marketing and engineering professionals work directly with college and university administrators to design and implement integrated solutions for providing and managing telecommunications equipment and services to meet the current and prospective communications needs of their institutions. As part of its program, the Company often installs telecommunications equipment which, depending upon the circumstances, may include a switch or private branch exchange, voice mail, cabling and, in the U.K., pay telephones. Pay phone usage in the U.K., particularly at universities, is more prevalent than in the U.S. and Canada. To access this market directly, the Company has established a pay phone division in the U.K., which supplies pay phones that will automatically route calls from universities and other institutions over ACC U.K.'s network.
As of December 31, 1995, the Company had entered into a total of approximately 130 contracts with colleges and universities in its three geographic regions, of which approximately 100 were long-term agreements with terms which generally range from three to 10 years in length. The Company provided services to approximately 129,000 student accounts in the U.S., Canada and the U.K., as of December 31, 1995. The Company's long distance rates in the U.S. for students generally are priced at a 10% discount from those charged by the largest long distance carriers. The contracts in the U.S. typically provide the Company with a right of first refusal to provide the institution with any desired additional telecommunications services or enhancements (based on market prices) during the term of the contract. The Company's university contracts in Canada generally provide it with the exclusive right, and in the U.K. the opportunity, to market to the school's students, faculty and administration. Most of the Company's contracts in Canada also provide for exclusive university support for marketing to alumni. These arrangements allow the Company to market its services to these groups through its affinity programs.
The Company offers university customers in the U.S., Canada and the U.K. certain customized services. The Company offers academic institutions a comprehensive billing package to assist them in reviewing and controlling their telecommunications costs. For its university student customers in the U.S. and Canada, the Company provides a billing format that indicates during each statement period the savings per call (in terms of the discount from the largest long distance carrier's rates) realized during the billing period, and for all university customers the Company provides a call detail report recording every long distance call. In addition, for university student customers, the Company provides individual bills for each user of the same telephone in a dormitory room or suite so that each student in the dormitory room or suite can be billed for the calls he or she made.
Many of the Company's university customers in the U.S. are offered operator services, which are available 24 hours per day, seven days per week. The Company also offers its U.S. university customers its ''Travel Service Elite'' domestic calling card. In addition, the Company sells a prepaid calling card in the U.S., which allows customers to prepay for a predetermined number of ''units'' representing long distance minutes. The rate at which the units are used is determined by the destination of the calls made by the customer.
The Company's sales group targets university customers in the U.S., Canada and in the U.K. In the U.S. university market, the Company generally targets small to medium size universities and colleges with full time enrollments in the range of 1,000 to 5,000 students. In Canada, the Company has been able to establish relationships with several large universities. The Company believes that, while its marketing approach in Canada is similar to that in the U.S., its nationwide presence in Canada assists it in marketing to larger academic institutions. In the U.K., the Company has been able to establish long-term relationships with several large universities. The Company believes that, while its marketing approach in the U.K. is similar to that in the U.S., it is able to access larger educational institutions because of its nationwide presence and because transmission facilities-based carriers have not focused on this market. The Company believes that competition in the university market is based on price, as well as the marketing of unique programs and customizing of telecommunications services to the needs of the particular institution and that its ability to adapt to customer needs has enhanced its development of relationships with universities.
RESIDENTIAL LONG DISTANCE SERVICES. The Company offers its residential customers in the U.S. and Canada a variety of long distance service plans and is currently offering and developing similar plans for its residential customers in the U.K. In the U.S., the Company's ''Save Plus'' program provides customers with competitively priced long distance service. In addition, U.S. customers are provided with a ''Phone Home'' long distance service through which, by dialing an 800 number plus an access code, callers can call home at competitive rates. In general, the Company's residential services are priced below AT&T's premium rates for similar services. In Canada, the Company offers three different residential service plans. The basic offering is a discount plan, with call pricing discounted from the Stentor companies' tariffed rates for similar services depending on the time of day and day of the week. The Company also offers its ''Sunset Savings Plan,'' which allows calling across Canada and to the continental U.S. at a flat rate per minute. In the Toronto metropolitan area, the Company offers ''Extended Metro Toronto'' calling, which provides flat rate calling within areas adjacent to Toronto that are long distance from each other. Customized billing services are also offered to the Company's U.S. and Canadian residential customers. In the U.K., all residential customers use the Company's ACCess 1601 service, which provides savings of as much as 28% off the standard rates charged for residential service by British Telecom or Mercury, but requires the customer to dial a four digit access code before dialing the area code and number.
INTERNATIONAL LONG DISTANCE SERVICES. The Company offers international products and services to both its existing customer base and to potential customers in the U.S., Canada and the U.K. The Company's international simple resale licenses (the ''ISR Licenses'') allow the Company to resell international long distance service on leased international circuits connected to the PSTN at both ends between the U.S. and Canada, the U.S. and the U.K., Canada and the U.K., and certain other countries. The Company believes it can compete effectively for international traffic due to the ISR Licenses it has obtained for traffic between the U.S., Canada and the U.K. which allow it to price its services at cost-based rates that are lower than the international settlement-based rates that would otherwise apply to such traffic. However, numerous other carriers also have international simple resale licenses. The Company has leased fixed cost facilities between these countries and is developing services for customers with high volumes of traffic between and among the U.S., Canada and the U.K.
LOCAL EXCHANGE SERVICES. Building on its experience in providing local telephone service to various university customers, the Company took advantage of recent regulatory developments in New York State and in 1994 began offering local telephone service to commercial customers in upstate New York. As a result of its August 1995 acquisition of Metrowide Communications, the Company provides local telephone service as a reseller in Ontario, Canada. The Company believes that it can strengthen its relationships with existing commercial, university and college and residential customers in New York State and in Ontario, Canada and can attract new customers by offering them local and long distance services, thereby providing a single source for comprehensive telecommunications services. Providing local telephone service will also enable the Company to serve new local exchange customers even if they are already under contract with a different interexchange carrier for long distance service. Commencing in 1996, the Company plans to expand its local telephone operations to selected other metropolitan areas in New York and Massachusetts.
The Company has only limited experience in providing local telephone services, having commenced providing such services in 1994, and to date has experienced an operating cash flow deficit in that business. In order to attract local customers, the Company must offer substantial discounts from the prices charged by local exchange carriers and must compete with other alternative local companies that offer such discounts. Larger, better capitalized alternative local providers, including AT&T and Time Warner Cable, among others, will be better able to sustain losses associated with discount pricing and initial investments and expenses. The local telephone service business requires significant initial investments and expenses in capital equipment, as well as significant initial promotional and selling expenses. There can be no assurance that the Company will be able to lease transmission facilities from local exchange carriers at wholesale rates that will allow the Company to compete effectively with the local exchange carriers or other alternative providers or that the Company will generate positive operating margins or attain profitability in its local telephone service business.
SALES AND MARKETING
The Company markets its services in the U.S., Canada and the U.K. through a variety of channels, including ACC's internal sales forces, independent sales agents, co-marketing arrangements and affinity programs, as described below. The Company has a total of approximately 130 internal sales personnel and approximately 200 independent sales agents serving its U.S., Canadian and U.K. markets. Although it has not experienced significant turnover in recent periods, a loss of a significant number of independent sales agents could have a significant adverse effect on the Company's ability to generate additional revenue. The Company maintains a number of sales offices in the Northeastern U.S., Canada, and in London, Manchester and Cambridge, England. In addition, with respect to its university and student customers in each country, the Company has designated representatives to assist in customer enrollment, dissemination of marketing information, complaint resolution and, in some cases, collection of customer payments, with representatives located on some campuses. The Company actively seeks new opportunities for business alliances in the form of affinity programs and co-marketing arrangements to provide access to alternative distribution channels.
The following table indicates the approximate number of commercial, residential and student customer accounts maintained by the Company as of December 31, 1994 and 1995 in the U.S., Canada and the U.K., respectively:
During each of the last three years, no customer accounted for 10% or more of the Company's total revenue.
UNITED STATES. The Company markets its services in the U.S. through ACC's internal sales personnel and independent sales agents as well as through attendance and representation at significant trade association meetings and industry conferences of target customer groups. The Company's sales and marketing efforts in the U.S. are targeted primarily at business customers with $500 to $15,000 of monthly usage, selected residential customers and universities and colleges. The Company also markets its services to other resellers and rebillers. The Company plans to leverage its market base in New York and Massachusetts into other New England states and Pennsylvania and to eventually extend its marketing focus in other states. ACC has obtained authorization to originate long distance voice services in 44 states. The Company plans to expand its local telephone service operations to selected other New York and Massachusetts metropolitan areas.
CANADA. The Company markets its long distance services in Canada through internal sales personnel and independent sales agents, co-marketing arrangements and affinity programs. The Company focuses its direct selling efforts on medium-sized and large business customers. The Company also markets its services to other resellers and rebillers. The Company uses independent sales agents to target small to medium-sized business and residential customers throughout Canada. These independent sales agents market the Company's services under contracts that generally provide for the payment of commissions based on the revenue generated from new customers obtained by the representative. The use of an independent agent network allows the Company to expand into additional markets without incurring the significant initial costs associated with a direct sales force.
In addition to marketing its residential services in Canada through independent sales agents, the Company has developed several affinity programs designed to attract residential customers within specific target groups, such as clubs, alumni groups and buying groups. The use of affinity programs allows the Company to target groups with a nationwide presence without engaging in costly nationwide advertising campaigns. For example, ACC Canada has established affinity programs with such groups as the Home Service Club of Canada, the University of Toronto and the University of British Columbia. In addition, the Company has developed a co-marketing arrangement with Hudson's Bay Company (a large Canadian retailer) through which the Company's telecommunications services are marketed under the name ''The Bay Long Distance Program.''
UNITED KINGDOM. In the U.K., the Company markets its services to business and residential customers, as well as other telecommunications resellers, through a multichannel distribution plan including its internal sales force, independent sales agents, co-marketing arrangements and affinity programs.
The Company generally utilizes its internal sales force in the U.K. to target medium and large business customers, a number of which have enough volume to warrant a direct access line to the Company's switch, thereby bypassing the PSTN. The Company markets its services to small and medium- sized businesses through independent sales agents. Telemarketers also are used to market services to small business customers and residential customers and to generate leads for the other members of the Company's internal sales force and independent sales agents. ACC U.K. has established an internal marketing group that is focused on selling its service to other telecommunications resellers in the U.K. and certain European countries on a wholesale basis. In October 1995, the Company entered into a co-marketing arrangement with London Electric PLC through which the electric utility offers long distance telephone services to its London customers which are co-branded with ACC.
NETWORK
In the U.S., Canada and the U.K., the Company utilizes a network of lines leased under volume discount contracts with transmission facilities- based carriers, much of which is fiber optic cable. To maximize efficient utilization, the Company's network in each country is configured with two- way transmission capability that combines over the same network the delivery of both incoming and outgoing calls to and from the Company's switches. The selection of any particular circuit for the transmission of a call is controlled by routing software, located in the switches, that is designed to cause the most efficient use of the Company's network. The Company evaluates opportunities to install switches in selected markets where the volume of its customer traffic makes such an investment economically viable. Utilization of the Company's switches allows ACC to route customer calls over multiple networks to reduce costs. As of December 31, 1995, the Company operated switches for its call traffic in eight locations and maintained 19 additional points of presence (''POPs'') in the U.S., Canada and the U.K.
Some of the Company's contracts with transmission facilities-based carriers contain under-utilization provisions. These provisions require the Company to pay fees to the transmission facilities-based carriers if the Company does not meet minimum periodic usage requirements. The Company has not been assessed with any underutilization charges in the past. However, there can be no assurance that such charges would not be assessed in the future. Other resellers generally contract with the Company on a month-to- month basis, select the Company almost exclusively on the basis of price and are likely to terminate their arrangements with the Company if they can obtain better pricing terms elsewhere. The Company uses projected sales to other resellers in evaluating the trade-offs between volume discounts and minimum utilization rates it negotiates with transmission facilities-based carriers. If sales to other resellers do not meet the Company's projected levels, the Company could incur underutilization charges and be placed at a disadvantage in negotiating future volume discounts.
ACC generally utilizes redundant, highly automated advanced telecommunications equipment in its network and has diverse alternate routes available in cases of component or facility failure. Automatic traffic re-routing enables the Company to provide a high level of reliability for its customers. Computerized automatic network monitoring equipment facilitates fast and accurate analysis and resolution of network problems. The Company provides customer service and support, 24-hour network monitoring, trouble reporting and response, service implementation coordination, billing assistance and problem resolution.
In the U.S., the Company maintains two long distance switches, one local exchange switch and nine additional points of presence. These switches and POPs provide an interface with the PSTN to service the Company's customers. Lines leased from transmission facilities-based carriers link the Company's U.S. POPs to its switches. ACC U.S. maintains a leased, direct trans-Atlantic link with ACC U.K. that it established in 1994 following the Company's receipt of its ISR License for U.K.-U.S. calls and international private line resale authority in the U.S.
In Canada, the Company maintains switches in Toronto, Montreal and Vancouver, together with seven POPs to provide an interface with the Canadian PSTN. The Company also maintains frame relay nodes for switched data in Toronto, Montreal, Vancouver and Calgary. The Company uses transmission lines leased from transmission facilities-based carriers to link its Canadian POPs to its switches. This network is also linked with the Company's switches in the U.S. and the U.K. ACC Canada also maintains a leased, direct trans-Atlantic link with ACC U.K. that it established in 1993 following the grant to ACC U.K. of its ISR License. This transmission line enables ACC Canada to send traffic to the U.K. at rates below those charged by Teleglobe Canada (''Teleglobe Canada''), the exclusive Canadian transmission facilities-based carrier for international calls, other than those to and from the U.S. and Mexico.
In the U.K., the Company maintains switches in London and Manchester, England. ACC U.K. maintains three additional POPs providing interfaces with the PSTN in the U.K., which are linked to its switches through transmission lines leased from the major transmission facilities-based carriers. This network is also linked with the Company's switches in the U.S. and Canada. Customers can access the Company's U.K. network through direct access lines or by dial-up access using auto dialing equipment, indirect access code dialing or least cost routing software integrated in the customer's telephone equipment.
Network costs are the single largest expense incurred by the Company. The Company strives to control its network costs and its dependence on other carriers by leasing transmission lines on an economical basis. The Company also has negotiated leases of private line circuits with carriers that operate fiber optic transmission systems at rates independent of usage, particularly on routes over which ACC carries high volumes of calls such as between the U.S., Canada and the U.K. The Company attempts to maximize the efficient utilization of its network in the U.S., Canada and the U.K. by marketing to commercial and academic institution customers, who tend to use its services most frequently on weekdays during normal business hours, and residential and student customers, who use these services most often during night and weekend off-peak hours.
INFORMATION SYSTEMS
The Company believes that maintaining sophisticated and reliable billing and customer services information systems that integrate billing, accounts receivables and customer support is a core capability necessary to record and process the data generated by a telecommunications service provider. While the Company believes its management information system is currently adequate, it has not grown as quickly as the Company's business and substantial investments are needed. In order to meet this challenge, ACC has made arrangements with a consultant and a vendor to develop new proprietary information systems which ACC has licensed to integrate customer services, management information, billing and financial reporting. The Company has budgeted approximately $6.0 million for these systems, which are expected to be installed during 1996. The systems are designed to (I) enhance the Company's ability to monitor and respond to the evolving needs of its customers by developing new and customized services, (ii) improve least-cost routing of traffic on ACC's international network, (iii) provide sophisticated billing information that can be tailored to meet the requirements of its customer base, (iv) provide high quality customer service, (v) detect and minimize fraud, (vi) verify payables to suppliers of telecommunications transmission facilities and (vii) integrate additions to its customer base. A variety of problems are often encountered in connection with the implementation of new information systems. There can be no assurance that the Company will not suffer adverse consequences or cost overruns in the implementation of the new information systems or that the new systems will be appropriate for the Company. See the Risk Factor discussion of "Dependence on Effective Information Systems'' in this Item 1 below.
COMPETITION
The telecommunications industry is highly competitive and is significantly influenced by the marketing and pricing decisions of the larger industry participants. In each of its markets, the Company competes primarily on the basis of price and also on the basis of customer service and its ability to provide a broad array of telecommunications services. The industry has relatively insignificant barriers to entry, numerous entities competing for the same customers and a high average churn rate, as customers frequently change long distance providers in response to the offering of lower rates or promotional incentives by competitors. Although many of the Company's customers are under multi-year contracts, several of the Company's largest customers (primarily other long distance carriers) are on month-to-month contracts and are particularly price sensitive. Revenues from other resellers accounted for approximately 22%, 7% and 9% of the revenues of ACC U.S., ACC Canada and ACC U.K., respectively, in 1995, and are expected to account for a higher percentage in the future. With respect to these customers, the Company competes almost exclusively on price and does not have long term contracts. The industry has experienced and will continue to experience rapid regulatory and technological change. Many competitors in each of the Company's markets are significantly larger than the Company, have substantially greater resources than the Company, control transmission lines and larger networks than the Company and have long-standing relationships with the Company's target customers. There can be no assurance that the Company will remain competitive in this environment. Regulatory trends have had, and may have in the future, significant effects on competition in the industry. As the Company expands its geographic coverage, it will encounter increased competition. Moreover, the Company believes that competition in non-U.S. markets is likely to increase and become more like competition in the U.S. markets over time as such non-U.S. markets continue to experience deregulatory influences. See the Risk Factor discussions of "Potential Adverse Effects of Regulation" and "Increasing Domestic and International Competition'' and the discussion of ''Regulation" all in this Item 1 below.
Competition in the long distance industry is based upon pricing, customer service, network quality, value-added services and customer relationships. The success of a non-transmission facilities-based carrier such as the Company depends largely upon the amount of traffic that it can commit to the transmission facilities-based carrier and the resulting volume discount it can obtain. Subject to contract restrictions and customer brand loyalty, resellers like the Company may competitively bid their traffic among other national long distance carriers to gain improvement in the cost of service. The relationship between resellers and the larger transmission facilities-based carriers is twofold. First, a reseller is a customer of the services provided by the transmission facilities-based carriers, and that customer relationship is predicated primarily upon the pricing strategies of the first tier companies. The reseller and the transmission facilities-based carriers are also competitors. The reseller will attract customers to the extent that its pricing for customers is generally more favorable than the pricing offered the same size customers by larger transmission facilities-based carriers. However, transmission facilities-based carriers have been aggressive in developing discount plans which have had the effect of reducing the rates they charge to customers whose business is sought by the reseller. Thus, the business success of a reseller is significantly tied to the pricing policies established by the larger transmission facilities-based carriers. There can be no assurance that favorable pricing policies will be continued by those larger transmission facilities-based carriers.
UNITED STATES. In the U.S., the Company is authorized to originate long distance service in 44 states (although it currently derives most of its U.S. revenues principally from calls originated in New York and Massachusetts). The Company competes for customers, transmission facilities and capital resources with numerous long distance telecommunications carriers and/or resellers, some of which are substantially larger, have substantially greater financial, technical and marketing resources, and own or lease larger transmission systems than the Company. AT&T is the largest supplier of long distance services in the U.S. inter-LATA market. The Company also competes within its U.S. call origination areas with other national long distance telephone carriers, such as MCI, Sprint and regional companies which resell transmission services. In the intra-LATA market, the Company also competes with the local exchange carriers servicing those areas. In its local service areas in New York State, the Company presently competes or in the future will compete with New York Telephone Company ("New York Telephone"), Frontier Corp., AT&T, Citizens Telephone Co., MFS, Time Warner Cable and with cellular and other wireless carriers. These local exchange carriers all have long-standing relationships with their customers and have financial, personnel and technical resources substantially greater than those of the Company. Furthermore, the recently announced joint venture between MCI and Microsoft Corporation ("Microsoft"), under which Microsoft will promote MCI's services, the recently announced joint venture among Sprint, Deutsche Telekom AG and France Telecom, to be called Global One, and other strategic alliances could increase competitive pressures upon the Company.
In addition to these competitive factors, recent and pending deregulation in each of the Company's markets may encourage new entrants. For example, as a result of legislation recently enacted in the U.S., RBOCs will be allowed to enter the long distance market, AT&T, MCI and other long distance carriers and utilities will be allowed to enter the local telephone services market and cable television companies will be allowed to enter the telecommunications market. In addition, the FCC has, on several occasions since 1984, approved or required price reductions by AT&T and, in October 1995, the FCC reclassified AT&T as a ''non-dominant'' carrier, which substantially reduces the regulatory constraints on AT&T. The Company believes that the principal competitive factors affecting its market share in the U.S. are pricing, customer service and variety of services. By offering high quality telecommunications services at competitive prices and by offering a portfolio of value-added services including customized billing packages, call management and call reporting services, together with personalized customer service and support, the Company believes that it competes effectively with other local and long distance telephone carriers and resellers in its service areas. The Company's ability to continue to compete effectively will depend on its continued ability to maintain high quality, market-driven services at prices generally below those charged by its competitors.
CANADA. In Canada, the Company competes with facilities-based carriers, other resellers and rebillers. The Company's principal transmission facilities-based competitors are the Stentor group of companies, in particular, Bell Canada, the dominant suppliers of long distance services in Canada, Unitel, which provides certain facilities- based and long distance services to business and residential customers, and Sprint Canada and fONOROLA Inc., which provide certain transmission facilities-based services and also acts as reseller of telecommunications services. The Company also competes against CamNet, Inc., a reseller of telecommunications services. The Company believes that, for some of its customers and potential customers, it has a competitive advantage over other Canadian resellers as a result of its operations in the U.S. and the U.K. In particular, the trans-Atlantic link that it established in June 1993 between the U.K. and Canada allows ACC Canada to sell traffic to the U.K. with a significantly lower cost structure than many other resellers.
UNITED KINGDOM. In the U.K. the Company competes with facilities-based carriers and other resellers. The Company's principal competitors in the U.K. are British Telecom, the dominant supplier of telecommunications services in the U.K., and Mercury. The Company also faces competition from emerging licensed public telephone operators (who are constructing their own facilities-based networks) such as Energis, and from other resellers including IDB WorldCom Services Inc., Esprit and Sprint. The Company believes its services are competitive, in terms of price and quality, with the service offerings of its U.K. competitors primarily because of its advanced network-related hardware and software systems and the network configuration and traffic management expertise employed by it in the U.K.
REGULATION
UNITED STATES
The services which the Company's U.S. operating subsidiaries provide are subject to varying degrees of federal, state and local regulation. The FCC exercises jurisdiction over all facilities of, and services offered by, telecommunications common carriers to the extent that they involve the provision, origination or termination of jurisdictionally interstate or international communications. The state regulatory commissions retain jurisdiction over the same facilities and services to the extent they involve origination or termination of jurisdictionally intrastate communications. In addition, many regulations may be subject to judicial review, the result of which the Company is unable to predict.
TELECOMMUNICATIONS ACT OF 1996. In February 1996, the ''Telecommunications Act of 1996'' was enacted. The legislation is intended to introduce increased competition in U.S. telecommunication markets. The legislation opens the local services market by requiring local exchange carriers to permit interconnection to their networks and by establishing local exchange carrier obligations with respect to unbundled access, resale, number portability, dialing parity, access to rights-of-way, mutual compensation and other matters. In addition, the legislation codifies the local exchange carriers' equal access and nondiscrimination obligations and preempts inconsistent state regulation. The legislation also contains special provisions that eliminate the AT&T Divestiture Decree (the "AT&T Divestiture Decree") (and similar antitrust restrictions on the GTE Operating Companies) which restricts the RBOCs from providing long distance services. These new provisions permit an RBOC to enter the ''out-of- region'' long distance market immediately and the ''in-region'' long distance market if it satisfies several procedural and substantive requirements, including showing that facilities-based competition is present in its market and that it has entered into interconnection agreements which satisfy a 14-point ''checklist'' of competitive requirements. The Company is likely to face significant additional competition, including from NYNEX Corp., the RBOC in the Company's Northeastern U.S. service area, which may be among the first RBOCs permitted to offer in-region long distance services. The new legislation provides for certain safeguards to protect against anticompetitive abuse by the RBOCs, but whether these safeguards will provide adequate protection to alternative carriers, such as the Company, and the impact of anticompetitive conduct if such conduct occurs, is unknown.
Under the legislation, any entity, including long distance carriers such as AT&T, cable television companies and utilities, may enter any telecommunications market, subject to reasonable state consumer protection regulations. The legislation also eliminates the statutory barrier which prevented local telephone companies from providing video programming services in their regions. The FCC may also forbear from regulating, in whole or in part, certain types of carriers upon compliance with certain procedural requirements. Such legislation, and the regulations that implement it will subject the Company to increased competition and may have other, as yet unknown, effects on the Company.
FEDERAL. The FCC has classified ACC U.S. as a non-dominant interexchange carrier. Generally, the FCC has chosen not to exercise its statutory power to closely regulate the charges or practices of non- dominant carriers. Nevertheless, the FCC acts upon complaints against such carriers for failure to comply with statutory obligations or with the FCC's rules, regulations and policies. The FCC also has the power to impose more stringent regulatory requirements on the Company and to change its regulatory classification. The Company believes that, in the current regulatory environment, the FCC is unlikely to do so.
Until October 1995, AT&T was classified as a dominant carrier but AT&T successfully petitioned the FCC for non-dominant status in the domestic interstate and interexchange market. Therefore, certain pricing restrictions that once applied to AT&T have been eliminated, which could result in increased prices for services the Company purchases from AT&T and more competitive retail prices offered by AT&T to customers. However, to date, the Company has not found rate changes attributable to the price cap regulation of AT&T and the local exchange carriers to have substantially adversely affected its business. AT&T is, however, still classified as a dominant carrier for international services. AT&T's application for reclassification as non-dominant in the international market is currently pending.
Both domestic and international non-dominant carriers must maintain tariffs on file with the FCC. Prior to a recent court decision which reversed the FCC's ''forbearance policy'' that had excused non-dominant interexchange carriers from filing tariffs with the FCC, domestic non- dominant carriers were permitted by the FCC to file tariffs with a ''reasonable range of rates'' instead of the detailed schedules of individual charges required of dominant carriers. However, the Company must now file tariffs containing detailed actual rate schedules. In reliance on the FCC's past relaxed tariff filing requirements for non-dominant domestic carriers, the Company and most of its competitors did not maintain detailed rate schedules for domestic offerings in their tariffs. AT&T has filed suit against three of its major competitors for failing to file tariffs during the period preceding the court decision. Until the two year statute of limitations expires, the Company could be held liable for damages for its past failure to file tariffs containing actual rate schedules. Recent legislative changes may, however, result in the FCC's adopting a new forbearance policy, and the FCC is expected to institute a rule-making proceeding to consider the merits of reinstating a forbearance policy. There can be no assurance in this regard, however.
In contrast to these recent developments affecting domestic long distance service, the Company's U.S. subsidiaries have long been subject to certification and tariff filing requirements for all international resale operations. The Company's U.S. subsidiaries' international rates are not subject to either rate-of-return or price cap regulation. The Company must seek separate certification authority from the FCC to provide private line service or to resell private line services between the U.S. and any foreign country. The Company's ACC Global Corp. subsidiary has received authority from the FCC to resell private lines on a switched service basis between the U.S. and Canada, and was the first entity to file to obtain such authority between the U.S. and the United Kingdom, which it received in September 1994.
Among domestic local carriers, only the incumbent local exchange carriers are currently classified as dominant carriers. Thus, the FCC regulates many of the local exchange carriers' rates, charges and services to a greater degree than the Company's, although FCC regulation of the local exchange carriers is expected to decrease over time, particularly in light of recent U.S. legislation.
To date, the FCC has exercised its regulatory authority to supervise closely the rates only of dominant carriers. However, the FCC has increasingly relaxed its control in this area. For example, the FCC is in the process of repricing local transport charges (the fee for the use of the local exchange carrier's transmission facility connecting the local exchange carrier's central offices and the interexchange carrier's access point). In addition, the local exchange carriers have been afforded a degree of pricing flexibility in setting access charges where adequate competition exists, and the FCC is considering certain proposals which would relax further local exchange carriers access regulation. Under interim rate structures adopted by the FCC, projected access charges for AT&T, and possibly other large interexchange carriers, would decrease while access charges for smaller interexchange carriers, including the Company, would increase. While the outcome of these proceedings is uncertain, should the FCC adopt permanent access charge rules along the lines of the interim structures it has allowed to take effect, it could place the smaller interexchange carriers, such as the Company, at a cost disadvantage, thereby adversely affecting their ability to compete with AT&T and larger interexchange carriers.
The FCC had previously required local exchange carriers to allow ''collocation'' of CAPs in or near the central office switching areas of the local exchange carriers, to enable such CAPs to provide transport service between a local exchange carrier's central office switch and an interexchange carrier's point-of-presence or end user location. However, a 1995 decision of the Federal Court of Appeals struck down the FCC's Order as beyond its statutory authority. The FCC has replaced the requirement of ''collocation'' with a requirement of ''virtual collocation,'' which similarly expands the authority and ability of CAPs to provide competing transport service. The recently enacted Telecommunications Act of 1996 provides the FCC with additional statutory authority to mandate collocation.
In addition to its status as an access customer, the Company is now an access provider in connection with its provision of local telephone service in upstate New York. Under the Telecommunications Act of 1996, the Company may become subject to many of the same obligations to which the RBOCs and other telecommunications providers are subject in their provision of local exchange services, such as resale, dialing parity and reciprocal compensation.
STATE
The Company's intrastate long distance operations are subject to various state laws and regulations including, in most jurisdictions, certification and tariff filing requirements. The Company provides long distance service in all or some portion of 40 states and has received the necessary certificate and tariff approvals to provide intrastate long distance service in 44 states. All states today allow some form of intrastate telecommunications competition. However, some states restrict or condition the offering of intrastate/intra-LATA long distance services by the Company and other interexchange carriers. In the majority of those states that do permit interexchange carriers to offer intra-LATA services, customers desiring to access those services are generally required to dial special access codes, which puts the Company at a disadvantage relative to the local exchange carrier's intrastate long distance service, which generally requires no such access code dialing. Increasingly, states are reexamining this policy and some states, such as New York, have ordered that this disadvantage be removed. The Telecommunications Act of 1996 requires local exchange companies to adopt ''intra-LATA equal access'' as a pre-condition for the local exchange carriers entering into the inter-LATA long distance business. Accordingly, it is expected that the dialing disparity for intra-LATA toll calls will be removed in the future. The Company expects to have ''equal access'', with respect to intra-LATA calls, for over 90% of its New York State subscribers by the end of 1996. Implementation in other states may take longer. Relevant state public service commissions ("PSCs") also regulate access charges and other pricing for telecommunications services within each state. The RBOCs and other local exchange carriers have been seeking reduction of state regulatory requirements, including greater pricing flexibility. This could adversely affect the Company in several ways. The regulated prices for intrastate access charges that the Company must pay could increase both relative to the charges paid by the largest interexchange carriers, such as AT&T, and in absolute terms as well. Additionally, the Company could face increased price competition from the RBOCs and other local exchange carriers for intra-LATA long distance services, which may also be increased by the removal of former restrictions on long distance service offerings by the RBOCs as a result of recently enacted legislation.
NEW YORK STATE REGULATION OF LONG DISTANCE SERVICE. Beginning in 1992, the New York Public Service Commission (''NYPSC'') commenced several proceedings to investigate the manner in which local exchange carriers should be regulated. In July 1995, the NYPSC ordered the acceptance of a Performance Regulation Plan for New York Telephone. The terms of the plan, as ordered, included: (I) a limitation on increases in basic local rates for the 5-year term of the plan, (ii) implementation of intra-LATA equal access by no later than March 1996, (iii) reductions in the intrastate inter-LATA equal access charges which the Company and other interexchange carriers pay over the next five years totaling 33%, (iv) reductions in the intra-LATA toll rates charged to the end user customer over the next five years totaling 21%, and (v) an intercarrier compensation plan that reduced the rates paid by the competitive local exchange carriers (including the Company's subsidiaries) by one-half. New York Telephone does have some increased ability to restructure rates and to request rate reductions, but all rate changes are still subject to NYPSC approval. New York Telephone is also required to meet various service quality measurements, and will be subject to financial penalties for failure to meet these objectives.
In a manner similar to the FCC, the NYPSC has adopted revised rules governing the manner in which intrastate local transport elements of access charges are to be priced. These revisions accompanied its decision ordering local exchange carriers to permit ''collocation'' for intrastate special access and switched access transport services. In general, where CAPs have established interconnections at the switches of individual local exchange carriers, the local exchange carriers will be given expanded authority to enter into individually negotiated contracts with interexchange carriers for transport service. At the same time, the access charges to other interexchange carriers located at the same switching facilities generally will be lowered. If insufficient competition is present at that switching facility, the pre-existing intrastate ''equal price per unit of traffic'' rule will remain in effect. While the presence of switch interconnections may actually lower the price the Company may pay for local transport services, the ability of carriers that handle large traffic volumes, such as AT&T, to negotiate flat rate direct transport charges may result in the Company paying more per unit of traffic than its competitors for local transport service.
NEW YORK STATE REGULATION OF LOCAL TELEPHONE SERVICE. The NYPSC has determined that it will allow competition in the provision of local telephone service in New York State, including ''alternate access,'' private line services and local switched services. The Company applied to the NYPSC for authority to provide such services, and received certifications in early 1994 to offer these services. The NYPSC has also authorized resale of local exchange services, which may allow significant market entry by large toll carriers such as AT&T and MCI.
The Company's ability to offer competing local services profitably will depend on a number of factors. For the Company to compete effectively against New York Telephone, Frontier Corp. and other local exchange carriers in the Company's upstate New York service areas, it must be able to interconnect with the network of local exchange carriers in the markets in which it plans to offer local services, obtain direct telephone number assignments and, in most cases, negotiate with those local exchange carriers for certain services such as leased lines, directory assistance and operator services on commercially acceptable terms. The order issued in the New York Telephone Performance Regulation Plan (described above) established prices for interconnection and required New York Telephone to tariff this service, making it generally available to all competitors, including the Company. The actual monies paid by the Company to New York Telephone for terminating the Company's traffic, and the monies received by the Company from New York Telephone for terminating New York Telephone traffic, are subject to NYPSC regulation and will depend upon the Company's compliance with certain service obligations imposed by the NYPSC, including the obligation to serve residential customers. The rates will also affect the Company's competitive position in the intra-LATA toll market relative to the local exchange carrier and major interexchange carriers such as AT&T and MCI, which may offer intra-LATA toll services. The NYPSC has also issued orders assuring local telephone service competitors access to number resources, listing in the local exchange carrier's directory and the right to reciprocal intercarrier compensation arrangements with the local exchange carriers, and also establishing interim rules under which competitive providers of local telephone service are entitled to comparable access to and inclusion in local telephone routing guides and access to the customer information of other carriers necessary for billing or other services. The Company has obtained number assignments in 12 upstate New York markets and has applications pending in 11 additional cities.
The NYPSC has also adopted interim rules that would subject competitive providers of local telephone service to a number of rules, service standards and requirements not previously applicable to ''nondominant'' competitors such as the Company. These rules include requirements involving ''open network architecture,'' provision of reasonable interconnection to competitors, and compliance with the NYPSC's service quality standards and consumer protection requirements. As part of its ''open network architecture'' obligations, the Company could be required to allow collocation with its local toll switch upon receipt of a bona fide request by an interexchange carrier or other carrier. Compliance with these rules in connection with the Company's provision of local telephone service may impose new and significant operating and administrative burdens on the Company. This proceeding will also determine the responsibilities of new local service providers with respect to subsidies inherent in existing local exchange carrier rates.
Under the Telecommunications Act of 1996, incumbent local exchange companies such as New York Telephone and Frontier must allow the resale of both bundled local exchange services (known as "loops") as well as unbundled local exchange "elements" (known as "links" and "ports"). The NYPSC is currently conducting a proceeding to establish rates for those services under pricing formulas set forth in the new federal legislation. The Company generally intends to provide local service through the resale of unbundled links rather than through the resale of bundled loops. Accordingly, the outcome of the NYPSC proceeding, including decisions regarding the pricing of bundled loops and unbundled links, could affect the Company's competitive standing as a local service provider in relation to larger companies, such as AT&T and MCI, which may initially enter the local service market through resale of bundled loops.
LOCAL TELEPHONE SERVICE IN MASSACHUSETTS. The Massachusetts Department of Public Utilities (''DPU'') has initiated a docket (currently in its briefing stages) to determine the format for local competition in that state. The format appears to be similar to the structure developing in New York State. Pending the outcome of this proceeding, the DPU is allowing companies to apply for certification as local exchange carriers and to begin operations under interim agreements. The Company is in the process of applying for certification.
The Company's ability to construct and operate competitive local service networks for both local private line and switched services will depend upon, among other things, implementation of the structural market reforms discussed above, favorable determinations with respect to obligations by the state and federal regulators, and the satisfactory implementation of interconnection with the local exchange carriers.
CANADA
Long distance telecommunications services in Canada generally are subject to regulation by the CRTC. As a result of significant regulatory changes during the past several years, the historical monopolies for long distance service granted to regional telephone companies in Canada have been terminated. This has resulted in a significant increase in competition in the Canadian long distance telecommunications industry. In addition to the proceedings referred to below, the CRTC continues to take steps toward increased competition, including proceedings relating to the convergence between telecommunications and broadcasting.
CRTC DECISIONS. In March 1990, the CRTC for the first time permitted non-facilities-based carriers, such as ACC Canada, to aggregate the traffic of customers on the same leased interexchange circuits in order to provide discounted long distance voice services in the provinces of Ontario, Quebec and British Columbia. In September 1990, the CRTC also authorized carriers in addition to members of the Stentor consortium to interconnect their transmission facilities with the Message Toll Service (''MTS'') facilities of Teleglobe Canada, for the purpose of allowing resellers, such as ACC Canada, to resell international long distance MTS service. Prior to this decision, Bell Canada and other members of Stentor were the exclusive long distance carriers interconnected to Teleglobe Canada's MTS facilities.
In December 1991, the CRTC permitted the resale on a joint-use basis of the international private line services of Teleglobe Canada to provide interconnected voice services. Resellers are subject to charges levied by Teleglobe Canada for the use of its facilities and contribution charges payable to Teleglobe Canada and remitted to the telephone companies. In September 1993, the CRTC allowed Teleglobe Canada to restructure its overseas MTS to allow domestic service providers (including resellers) who commit to a minimum level of usage to interconnect with Teleglobe Canada's international network at its gateways for the purpose of providing outbound direct-dial telephone service. Overseas inbound traffic would be allocated to Stentor and other domestic service providers (including resellers) in proportion to their outbound market shares.
In February 1996, the CRTC introduced a regime of price regulation for Teleglobe Canada's services to be in effect from April 1996 to December 1999, barring any exceptional changes to Teleglobe Canada's operating environment. Under this regime, Teleglobe Canada must reduce prices on an annual basis for its telephone and Globeaccess VPN Services, and must adhere to a price ceiling for most of its regulated non-telephone services. These rate reductions will have the effect of reducing the price the Company can charge its customers. The Canadian federal government is currently conducting a review to determine whether to extend Teleglobe Canada's status as the monopoly transmission facilities-based provider of Canada-overseas telecommunications services beyond March 1997.
In June 1992, the CRTC effectively removed the monopoly rights of certain Stentor member companies with respect to the provision of transmission facilities-based long distance voice services in the territories in which they operate and opened the provision of these services to substantial competition in all provinces of Canada other than Alberta, Saskatchewan and Manitoba. Competition has subsequently been introduced in Alberta and Manitoba, which are subject to CRTC regulation, and Saskatchewan, which has not yet become subject to CRTC regulation. Among other things, the CRTC also directed the telephone companies that were subject to this decision to provide Unitel with ''equal ease of access,'' I.E., to allow Unitel to directly connect its network to the telephone companies' toll and end office switches to allow Unitel's customers to make long distance calls without dialing extra digits. In July 1993, the CRTC ordered the same telephone companies to provide resellers with equal ease of access upon payment of contribution, network modification and ongoing access charges on the same general basis as for transmission facilities-based carriers.
At the same time, the CRTC also required telephone company competitors to assume certain financial obligations, including the payment of ''contribution charges'' designed to ensure that each long distance carrier bears a fair proportion of the subsidy that long distance services have traditionally contributed to the provision of local telephone service. As a result, contribution charges payable by resellers were increased. These charges are levied on resellers as a monthly charge on leased access lines. The charges vary for each telephone company based on that company's estimated loss on local services. Contribution charges were reduced by a discount which was initially 25%, and which declines over time to zero in 1998. Resellers whose access lines were connected only to end offices on a non-equal access basis initially paid contribution charges of 65% of the equal access contribution rates, rising over a five-year period to an 85% rate thereafter. The CRTC also established a mechanism under which contribution rates will be re-examined on a yearly basis. In March 1995, the CRTC decreased the contribution charges required to be paid by alternate long distance service providers to the local telephone companies, and made such decreases retroactive to January 1, 1994. Contribution charges payable to Bell Canada were reduced by 23%, and those payable to BC Tel by 13%.
Transmission facilities-based competitors and resellers that obtained equal ease of access also assumed approximately 30% of the estimated Cdn. $240 million cost required to modify the telephone companies' networks to accommodate interconnection with competitors as well as a portion of the ongoing costs of the telephone companies to provide such interconnection. Initial modification charges are spread over a period of 10 years. These charges and costs are payable on the basis of a specified charge per minute.
In December 1993, the CRTC gave permission to Bell Canada to file proposed tariffs for local rates for business customers--including resellers--which would make rates dependent on the number of outgoing calls made. Outgoing calls exceeding a threshold would be charged on a per- minute basis. The threshold would not apply to the customer's incoming traffic. The threshold would vary by rate group bands to take into account usage differences. Bell Canada has recently filed proposed tariffs which would give business customers the option of choosing local measured service or flat rate service.
As contemplated in the CRTC's June 1992 decision, initial implementation of single carrier 800 number portability occurred in Canada in January 1994 and 800 number multi-carrier selection capability has recently been approved on an interim basis.
In April 1994, the CRTC initiated a proceeding to consider whether there should be a balloting process to permit customers to select a long distance service provider. In June 1995, the CRTC rejected the proposal for a balloting process. However, in August 1994, it directed the major telephone companies to include a customer bill insert from the CRTC during the fall of 1994 providing a message about equal access and the customers' ability to select an alternate toll service provider.
In July 1994, the CRTC modified the rules governing the consideration of new toll services to be offered by telephone companies and of rate reductions for their existing services to require the telephone companies to show that the revenues (or the average revenue per minute) for each service equal or exceed the sum of causal costs and contribution amounts for the service.
In November 1994, the CRTC varied certain elements of its Phase III costing procedures. These procedures are used to enable the CRTC to identify the costs and revenues of the dominant telephone companies associated with various categories of their services, in order, among other things, to identify the extent and nature of any cross-subsidies which may exist among those categories. The net effect of these Phase III changes was to lower contribution payments.
In September 1994, the CRTC established substantial changes to Canadian telecommunications regulation, including: (I) initiation of a program of rate rebalancing, which would entail three annual increases of Cdn. $2 per month in rates for local service, with corresponding decreases in rates for basic toll service, and an indication from the CRTC that there would be no price changes which would result in an overall price increase for North American basic toll schedules combined; (ii) the telephone companies' monopoly local and access services, including charges for bottleneck services (i.e., essential services which competitors are required to obtain from Stentor members) provided to competitors (the Utility segment), would remain in the regulated rate base, and the CRTC would replace earnings regulation for the Utility segment with price caps effective January 1, 1998; (iii) other services (the Competitive segment) would not be subject to earnings regulation after January 1, 1995, after which a Carrier Access Tariff would become effective, which would include charges for contribution, start-up cost recovery and bottleneck services and would be applicable to the telephone companies' and competitors' traffic based on a per minute calculation, rather than the per trunk basis previously used to calculate contribution charges; (iv) while the CRTC considered it premature to forbear from regulating interexchange services, it considered that the framework set forth in the decision may allow forbearance in the future (such forbearance has subsequently occurred in the case of certain non-dominant transmission facilities-based carriers and certain telephone company services); (v) the CRTC concluded that barriers to entry should be reduced for the local service market, including basic local telephone service and switched network alternatives, and has subsequently initiated proceedings to implement unbundled tariffs, co- location of facilities and local number portability; and (vi) the intention to consider applying contribution charges to other services using switched access, not only to long distance voice services.
Changes to these matters that were announced in October 1995 were the following: (I) rate rebalancing, with Cdn. $2 per month local rate increases commencing in each of January 1996 and January 1997 and another unspecified increase in 1998 (the contribution component of the Carrier Access Tariff is to be reduced correspondingly, but a corresponding reduction of basic North American long distance rates ordered by the CRTC was reversed by the Federal Cabinet in December 1995); (ii) reductions in contribution charges effective January 1, 1995, with contribution charges payable to Bell Canada reduced from 1994 levels by 16%, and those payable to BC Tel by 27%; (iii) changes to the costing methodology of the telephone companies including (a) the establishment of strict rules governing telephone company investments in competitive services involving broadband technology, (b) the requirement that the Competitive segment pay its fair share of joint costs incurred by both the Utility and Competitive segments, and (c) a directive specifying that revenues for many unbundled items must be allocated to the Utility segment thereby reducing the local shortfall and therefore contribution charges; (iv) directory operations of the telephone companies will continue to remain integral to the Utility segment, meaning that revenues from directory operations will continue to be assigned to the Utility segment to help reduce the local shortfall and therefore contribution payments; and (v) Stentor's request to increase the allowed rate of return of the Utility segment was denied and the CRTC restated its intention to retain the fifty basis point downward adjustment to the total company rate of return used to derive the Utility segment rates of return for the telephone companies.
In December 1995, the CRTC announced that the per trunk basis for calculating contribution charges would be replaced by a per minute basis for calculating contribution charges starting June 1, 1996. The off-peak contribution rate will be one-half the peak rate, with the peak rate applicable between 8 a.m. and 5 p.m., Monday through Friday. The Company expects that, based on existing and anticipated regulations and rulings, its Canadian contribution charges will increase by up to approximately Cdn. $2 million in 1997 over 1995 levels, which the Company will seek to offset with increased volume efficiencies.
The Company cannot predict the timing or the outcome of any of the pending and ongoing proceedings described above, or the impact they may have on the competitive position of ACC Canada.
TELECOMMUNICATIONS ACT. In October 1993, the Telecommunications Act replaced the Railway Act (Canada) as the principal telecommunications regulatory statute in Canada. This Act provides that all federally- regulated telecommunications common carriers as defined therein (essentially all transmission facilities-based carriers) are under the regulatory jurisdiction of the CRTC. It also gives the federal government the power to issue directions to the CRTC on broad policy matters. The Act does not subject non-facilities-based carriers, such as ACC Canada, to foreign ownership restrictions, tariff filing requirements or other regulatory provisions applicable to facilities-based carriers. However, to the extent that resellers acquire their own facilities in order to better control the carriage and routing of their traffic, certain provisions of this Act may be applicable to them.
UNITED KINGDOM
Until 1981, British Telecom was the sole provider of public telecommunications services throughout the U.K. This monopoly ended when, in 1981, the British government granted Mercury a license to run its own telecommunications system under the British Telecommunications Act 1981. Both British Telecom and Mercury are licensed under the subsequent Telecommunications Act 1984 to run transmission facilities-based telecommunications systems and provide telecommunications services. See the Risk Factors discussion of "Dependence on Transmission Facilities-Based Carriers and Suppliers'' in this Item 1 below.
In 1991, the British government established a ''multi-operator'' policy to replace the duopoly that had existed between British Telecom and Mercury. Under the multi-operator policy, the U.K. Department of Trade and Industry (the ''DTI'') will recommend the grant of a license to operate a telecommunications network to any applicant that the DTI believes has a reasonable business plan and where there are no other overriding considerations not to grant such license. All public telecommunications operators and international simple resellers operate under individual licenses granted by the Secretary of State for Trade and Industry pursuant to the Telecommunications Act 1984. Any telecommunications system with compatible equipment that is authorized to be run under an individual license granted under this Act is permitted to interconnect to British Telecom's network. Under the terms of British Telecom's license, it is required to allow any such licensed operator to interconnect its system to British Telecom's system, unless it is not reasonably practicable to do so (E.G., due to incompatible equipment).
Oftel has imposed mandatory price reductions on British Telecom which are expected to continue through at least 1997 and this has had, and may have, the effect of reducing the prices the Company can charge its customers in order to remain competitive.
ACC U.K. was granted an ISR License in September 1992 by the DTI and, for a period of approximately 18 months thereafter, was involved in protracted negotiations with British Telecom concerning the terms and conditions under which it could interconnect its leased line network and switching equipment with British Telecom's network. The ISR License allows the Company to offer domestic and international long distance services via connections to the PSTN of certain originating and terminating countries at favorable leased-line rates, rather than per call international settlement rates. Over time, larger carriers will be able to match the Company's rates because they also have, or are expected to obtain, international simple resale licenses. The DTI has, to date, designated the U.K., the U.S., Canada, Australia, Sweden, New Zealand and Finland for international simple resale traffic. The designation of a country by the DTI implies that the DTI has determined that the designated country has an equivalent regulatory framework that would permit the receipt of terminating traffic. In some cases, legislative approval of the extension of the ISR License by the designated country may be required. The Company presently utilizes the license primarily for traffic between the U.K., the U.S. and Canada.
ACQUISITIONS, INVESTMENTS AND STRATEGIC ALLIANCES
As the Company expands its service offerings, geographic focus and its network, the Company anticipates that it will seek to acquire assets and businesses of, make investments in or enter into strategic alliances with, companies providing services complementary to ACC's existing business. The Company believes that, as the global telecommunications marketplace becomes increasingly competitive, expands and matures, such transactions will be critical to maintaining a competitive position in the industry.
The Company's ability to effect acquisitions and strategic alliances and make investments may be dependent upon its ability to obtain additional financing and, to the extent applicable, consents from the holders of debt and preferred stock of the Company. While the Company may in the future pursue an active strategic alliance, acquisition or investment policy, no specific strategic alliances, acquisitions or investments are currently in negotiation and the Company has no immediate plans to commence such negotiations. If the Company were to proceed with one or more significant strategic alliances, acquisitions or investments in which the consideration consists of cash, a substantial portion of the Company's available cash could be used to consummate the acquisitions or investments. If the Company were to consummate one or more significant strategic alliances, acquisitions or investments in which the consideration consists of stock, shareholders of the Company could suffer a significant dilution of their interests in the Company.
Many business acquisitions must be accounted for as purchases. Most of the businesses that might become attractive acquisition candidates for the Company are likely to have significant goodwill and intangible assets, and the acquisitions of these businesses, if accounted for as a purchase, would typically result in substantial amortization charges to the Company. In the event the Company consummates additional acquisitions in the future that must be accounted for as purchases, such acquisitions would likely increase the Company's amortization expenses. In connection with acquisitions, investments or strategic alliances, the Company could incur substantial expenses, including the fees of financial advisors, attorneys and accountants, the expenses of integrating the business of the acquired company or the strategic alliance with the Company's business and any expenses associated with registering shares of the Company's capital stock, if such shares are issued. The financial impact of such acquisitions, investments or strategic alliances could have a material adverse effect on the Company's business, financial condition and results of operations and could cause substantial fluctuations in the Company's quarterly and yearly operating results. See the Risk Factor discussion of "Substantial Indebtedness; Need for Additional Capital'' in this Item 1 below and ''Management's Discussion and Analysis of Financial Condition and Results of Operations'' in Item 7 of this Report.
EMPLOYEES
As of December 31, 1995, the Company had 631 full-time employees worldwide. Of this total, 222 employees were in the U.S., 266 were in Canada and 143 were in the U.K. The Company has never experienced a work stoppage and its employees are not represented by a labor union or covered by a collective bargaining agreement. The Company considers its employee relations to be good.
RISK FACTORS
RECENT LOSSES; POTENTIAL FLUCTUATIONS IN OPERATING RESULTS
Although the Company has recently experienced revenue growth on an annual basis, it has incurred net losses and losses from continuing operations during each of its last two fiscal years. The 1995 net loss of $5.4 million resulted primarily from the expansion of operations in the U.K. (approximately $6.8 million), increased net interest expense associated with additional borrowings (approximately $4.9 million), increased depreciation and amortization from the addition of equipment and costs associated with the expansion of local service in New York State (approximately $1.6 million) and management restructuring costs (approximately $1.3 million), offset by positive operating income from the U.S. and Canadian long distance subsidiaries of approximately $9.0 million. The 1994 net loss of $11.3 million resulted primarily from operating losses due to expansion in the U.K. (approximately $5.6 million), the recording of the valuation allowance against deferred tax benefits (approximately $3.0 million), implementation of equal access in Canada (approximately $2.2 million) and operating losses due to expansion in local telephone service in the U.S. (approximately $0.9 million). There can be no assurance that revenue growth will continue or that the Company will achieve profitability in the future. The Company intends to focus in the near term on the expansion of its service offerings, including its local telephone business, and geographic markets, which may adversely affect cash flow and operating performance. As each of the telecommunications markets in which the Company operates continues to mature, growth in the Company's revenues and customer base is likely to decrease over time.
The Company's operating results have fluctuated in the past and may fluctuate significantly in the future as a result of a variety of factors, some of which are outside of the Company's control, including general economic conditions, specific economic conditions in the telecommunications industry, the effects of governmental regulation and regulatory changes, user demand, capital expenditures and other costs relating to the expansion of operations, the introduction of new services by the Company or its competitors, the mix of services sold and the mix of channels through which those services are sold, pricing changes and new service introductions by the Company and its competitors and prices charged by suppliers. As a strategic response to a changing competitive environment, the Company may elect from time to time to make certain pricing, service or marketing decisions or enter into strategic alliances, acquisitions or investments that could have a material adverse effect on the Company's business, results of operations and cash flow. The Company's sales to other long distance companies have been increasing. Because these sales are at margins that are lower than those derived from most of the Company's other revenues, this increase may reduce the Company's gross margins as a percentage of revenue. In addition, to the extent that these and other long distance carriers are less creditworthy, such sales may represent a higher credit risk to the Company. See the Risk Factor discussion below of "Risks Associated With Acquisitions, Investments and Strategic Alliances'' in this Item 1 and ''Management's Discussion and Analysis of Financial Condition and Results of Operations'' in Item 7 of this Report.
SUBSTANTIAL INDEBTEDNESS; NEED FOR ADDITIONAL CAPITAL
The Company will need to continue to enhance and expand its operations in order to maintain its competitive position, expand its service offerings and geographic markets and continue to meet the increasing demands for service quality, availability and competitive pricing. As of the end each of its last five fiscal years, the Company has experienced a working capital deficit. During 1995, the Company's income from operations plus depreciation and amortization ("EBITDA") minus capital expenditures and changes in working capital was $(7.0) million. The Company is highly leveraged. The Company's leverage may adversely affect its ability to raise additional capital. In addition, the Company's indebtedness requires significant repayments over the next five years. The Company may need to raise additional capital from public or private equity or debt sources in order to finance its anticipated growth, including local service expansion, which is capital intensive, working capital needs, debt service obligations, contemplated capital expenditures and the optional redemption of the Series A Preferred Stock if it is not converted. In addition, the Company may need to raise additional funds in order to take advantage of unanticipated opportunities, including more rapid international expansion or acquisitions of, investments in or strategic alliances with companies that are complementary to the Company's current operations, or to develop new products or otherwise respond to unanticipated competitive pressures. If additional funds are raised through the issuance of equity securities, the percentage ownership of the Company's then current shareholders would be reduced and, if such equity securities take the form of Preferred Stock or Class B Common Stock, the holders of such Preferred Stock or Class B Common Stock may have rights, preferences or privileges senior to those of the holders of Class A Common Stock. There can be no assurance that the Company will be able to raise such capital on satisfactory terms or at all. If the Company decides to raise additional funds through the incurrence of debt, the Company would need to obtain the consent of its lenders under its revolving credit facility with First Union National Bank of North Carolina and Fleet Bank of Connecticut (formerly Shawmut Bank Connecticut, N.A.), as agents (the ''Agents''), which expires on July 1, 2000 (the ''Credit Facility'') and would likely become subject to additional or more restrictive financial covenants. In the event that the Company is unable to obtain such additional capital or is unable to obtain such additional capital on acceptable terms, the Company may be required to reduce the scope of its presently anticipated expansion, which could materially adversely affect its business, results of operations and financial condition and its ability to compete. See ''Management's Discussion and Analysis of Financial Condition and Results of Operation-Liquidity and Capital Resources'' in Item 7 of this Report.
DEPENDENCE ON TRANSMISSION FACILITIES-BASED CARRIERS AND SUPPLIERS
The Company does not own telecommunications transmission lines. Accordingly, telephone calls made by the Company's customers are connected through transmission lines that the Company leases under a variety of arrangements with transmission facilities-based long distance carriers, some of which are or may become competitors of the Company, including AT&T, Bell Canada and British Telecom. Most inter-city transmission lines used by the Company are leased on a monthly or longer-term basis at rates that currently are less than the rates the Company charges its customers for connecting calls through these lines. Accordingly, the Company is vulnerable to changes in its lease arrangements, such as price increases and service cancellations. ACC's ability to maintain and expand its business is dependent upon whether the Company continues to maintain favorable relationships with the transmission facilities-based carriers from which the Company leases transmission lines, particularly in the U.K., where British Telecom and Mercury are the two principal, dominant carriers. The Company's U.K. operations are highly dependent upon the transmission lines leased from British Telecom. The Company generally experiences delays in billings from British Telecom and needs to reconcile billing discrepancies with British Telecom before making payment. Although the Company believes that its relationships with carriers generally are satisfactory, the deterioration in or termination of the Company's relationships with one or more of those carriers could have a material adverse effect upon the Company's business, results of operations and financial condition. Certain of the vendors from whom the Company leases transmission lines, including from the 22 RBOCs and other local exchange carriers, currently are subject to tariff controls and other price constraints which in the future may be changed. Under recently enacted U.S. legislation, constraints on the operations of the RBOCs have been dramatically reduced, which will bring additional competitors to the long distance market. In addition, regulatory proposals are pending that may affect the prices charged by the RBOCs and other local exchange carriers to the Company, which could have a material adverse effect on the Company's business, financial condition and results of operations. See the Risk Factor discussion of "Potential Adverse Effects of Regulation'' below and the discussion of "Regulation'' above in this Item 1. The Company currently acquires switches used in its North American operations from one vendor. The Company purchases switches from such vendor for its convenience and switches of comparable quality may be obtained from several alternative suppliers. However, a failure by a supplier to deliver quality products on a timely basis, or the inability to develop alternative sources if and as required, could result in delays which could have a material adverse effect on the Company's business, results of operations and financial condition.
POTENTIAL ADVERSE EFFECTS OF REGULATION
Legislation that substantially revises the U.S. Communications Act was signed into law on February 8, 1996. The legislation provides specific guidelines under which the RBOCs can provide long distance services and will permit the RBOCs to compete with the Company in the provision of domestic and international long distance services. The legislation opens all local service markets to competition from any entity (including long distance carriers, such as AT&T, cable television companies and utilities). Because the legislation opens the Company's markets to additional competition, particularly from the RBOCs, the Company's ability to compete is likely to be adversely affected. Moreover, as a result of and to implement the legislation, certain federal and other governmental regulations will be amended or modified, and any such amendment or modification could have a material adverse effect on the Company's business, results of operations and financial condition.
In the U.S., the FCC and relevant state PSCs have the authority to regulate interstate and intrastate rates, respectively, ownership of transmission facilities, and the terms and conditions under which the Company's services are provided. Federal and state regulations and regulatory trends have had, and in the future are likely to have, both positive and negative effects on the Company and its ability to compete. The recent trend in both Federal and state regulation of telecommunications service providers has been in the direction of lessened regulation. In general, neither the FCC nor the relevant state PSCs currently regulate the Company's long distance rates or profit levels, but either or both may do so in the future. However, the general recent trend toward lessened regulation has also given AT&T, the largest long distance carrier in the U.S., increased pricing flexibility that has permitted it to compete more effectively with smaller interexchange carriers, such as the Company. There can be no assurance that changes in current or future Federal or state regulations or future judicial changes would not have a material adverse effect on the Company.
In order to provide their services, interexchange carriers, including the Company, must generally purchase ''access'' from local exchange carriers to originate calls from and terminate calls in the local exchange telephone networks. Access charges presently represent a significant portion of the Company's network costs in all areas in which it operates. In the U.S., access charges generally are regulated by the FCC and the relevant state PSCs. Under the terms of the AT&T Divestiture Decree, a court order entered in 1982 which, among other things, required AT&T to divest its 22 wholly-owned RBOCs from its long distance division, the RBOCs were required to price the ''local transport'' portion of such access charges on an ''equal price per unit of traffic'' basis. In November 1993, the FCC implemented new interim rules governing local transport access charges while the FCC considers permanent rules regarding new rate structures for transport pricing and switched access competition. These interim rules have essentially maintained the ''equal price per unit of traffic'' rule. However, under alternative access charge rate structures being considered by the FCC, local exchange carriers would be permitted to allow volume discounts in the pricing of access charges. If these rate structures are adopted, access charges for AT&T and other large interexchange carriers would decrease, and access charges for small interexchange carriers would increase. While the outcome of these proceedings is uncertain, should the FCC adopt permanent access charge rules along the lines of the proposed structures it is currently considering, the Company would be at a cost disadvantage with regard to access charges in comparison to AT&T and larger interexchange carrier competitors.
The Company currently competes with the RBOCs and other local exchange carriers in the provision of ''short haul'' toll calls completed within a LATA, and will in the future, under provisions of recently enacted federal legislation, compete with such carriers in the long-haul, or inter-LATA, toll business. To complete long-haul and short-haul toll calls, the Company must purchase ''access'' from the local exchange carriers. The Company must generally price its toll services at levels equal to or below the retail rates established by the local exchange carriers for their own short-haul or long-haul toll rates. To the extent that the local exchange carriers are able to reduce the margin between the access costs to the Company and the retail toll prices charged by local exchange carriers, either by increasing access costs or lowering retail toll rates, or both, the Company will encounter adverse pricing and cost pressures in competing against local exchange carriers in both the short-haul and long-haul toll markets.
In Canada, services provided by ACC Canada are subject to or affected by certain regulations of the CRTC. The CRTC annually reviews the ''contribution charges'' (the equivalent of access charges in the U.S.) it has assessed against the access lines leased by Canadian long distance resellers, including the Company, from the local telephone companies in Canada. The Company expects that, based on existing regulations and rulings, its Canadian contribution charges will increase by approximately Cdn. $1.5 million in 1997 over 1995 levels. Additional increases in these contribution charges could have a material adverse effect on the Company's business, results of operations and financial condition. The Canadian long distance telecommunications industry is the subject of ongoing regulatory change. These regulations and regulatory decisions have a direct and material effect on the ability of the Company to conduct its business. The recent trend of such regulations has been to open the market to commercial competition, generally to the Company's benefit. There can be no assurance, however, that any future changes in or additions to laws, regulations, government policy or administrative rulings will not have a material adverse effect on the Company's business, results of operation and financial condition.
The telecommunications services provided by ACC U.K. are subject to and affected by regulations introduced by Oftel. Since the break up of the U.K. telecommunications duopoly consisting of British Telecom and Mercury in 1991, it has been the stated goal of Oftel to create a competitive marketplace from which detailed regulation could eventually be withdrawn. The regulatory regime currently being introduced by Oftel has a direct and material effect on the ability of the Company to conduct its business. Although the Company is optimistic about its ability to continue to compete effectively in the U.K. market, there can be no assurance that future changes in regulation and government will not have a material adverse effect on the Company's business, results of operations and financial condition. See the discussion "Business-Regulation'' above in this Item 1.
INCREASING DOMESTIC AND INTERNATIONAL COMPETITION
The long distance telecommunications industry is highly competitive and is significantly influenced by the marketing and pricing decisions of the larger industry participants. The industry has relatively insignificant barriers to entry, numerous entities competing for the same customers and high churn rates (customer turnover), as customers frequently change long distance providers in response to the offering of lower rates or promotional incentives by competitors. In each of its markets, the Company competes primarily on the basis of price and also on the basis of customer service and its ability to provide a variety of telecommunications services. The Company expects competition on the basis of price and service offerings to increase. Although many of the Company's university customers are under multi-year contracts, several of the Company's largest customers (primarily other long distance carriers) are on month-to-month contracts and are particularly price sensitive. Revenues from other resellers accounted for approximately 22%, 7% and 9% of the revenues of ACC U.S., ACC Canada and ACC U.K., respectively, in 1995, and are expected to account for a higher percentage in the future. With respect to these customers, the Company competes almost exclusively on price.
Many of the Company's existing competitors are significantly larger, have substantially greater financial, technical and marketing resources and larger networks than the Company, control transmission lines and have long- standing relationships with the Company's target customers. These competitors include, among others, AT&T, MCI and Sprint in the U.S.; Bell Canada, BC Telecom, Inc., Unitel and Sprint Canada (a subsidiary of Call- Net Telecommunications Inc.) in Canada; and British Telecom, Mercury, AT&T and WorldCom in the U.K. Other U.S. carriers are also expected to enter the U.K. market. The Company also competes with numerous other long distance providers, some of which focus their efforts on the same business customers targeted by the Company and selected residential customers and colleges and universities, the Company's other target customers. In addition, through its local telephone service business in upstate New York, the Company competes with New York Telephone, Frontier Corp., Citizens Telephone Co., MFS and Time Warner Cable and others, including cellular and other wireless providers. Furthermore, the recently announced joint venture between MCI and Microsoft, under which Microsoft will promote MCI's services, the recently announced joint venture among Sprint, Deutsche Telekom AG and France Telecom, and other strategic alliances, could also increase competitive pressures upon the Company and have a material adverse effect on the Company's business, results of operations and financial condition.
In addition to these competitive factors, recent and pending deregulation in each of the Company's markets may encourage new entrants. For example, as a result of legislation recently enacted in the U.S., RBOCs will be allowed to enter the long distance market, AT&T, MCI and other long distance carriers will be allowed to enter the local telephone services market, and any entity (including cable television companies and utilities) will be allowed to enter both the local service and long distance telecommunications markets. In addition, the FCC has, on several occasions since 1984, approved or required price reductions by AT&T and, in October 1995, the FCC reclassified AT&T as a ''non-dominant'' carrier, which substantially reduces the regulatory constraints on AT&T. As the Company expands its geographic coverage, it will encounter increased competition. Moreover, the Company believes that competition in non-U.S. markets is likely to increase and become more similar to competition in the U.S. markets over time as such non-U.S. markets continue to experience deregulatory influences. Prices in the long distance industry have declined from time to time in recent years and, as competition increases in Canada and the U.K., prices are likely to continue to decrease. For example, Bell Canada substantially reduced its rates during the first quarter of 1994. The Company's competitors may reduce rates or offer incentives to existing and potential customers of the Company. To maintain its competitive position, the Company believes that it must be able to reduce its prices in order to meet reductions in rates, if any, by others. See ''Management's Discussion and Analysis of Financial Condition and Results of Operations'' in Item 7 of this Report and the discussion ''Business-Competition'' above in this Item 1.
The Company has only limited experience in providing local telephone services, having commenced providing such services in 1994, and, although the Company believes the local business will enhance its ability to compete in the long distance market, to date the Company has experienced an operating cash flow deficit in the operation of that business in the U.S. on a stand-alone basis. The Company's revenues from local telephone services in 1995 were $1.35 million. In order to attract local customers, the Company must offer substantial discounts from the prices charged by local exchange carriers and must compete with other alternative local companies that offer such discounts. The local telephone service business requires significant initial investments in capital equipment as well as significant initial promotional and selling expenses. Larger, better capitalized alternative local providers, including AT&T and Time Warner Cable, among others, will be better able to sustain losses associated with discount pricing and initial investments and expenses. There can be no assurance that the Company will achieve positive cash flow or profitability in its local telephone service business.
RISKS OF GROWTH AND EXPANSION
The Company plans to expand its service offerings and principal geographic markets in the United States, Canada and the United Kingdom. In addition, the Company may establish a presence in deregulating Western European markets that have high density telecommunications traffic, such as France and Germany, when the Company believes that business and regulatory conditions warrant. There can be no assurance that the Company will be able to add service or expand its markets at the rate presently planned by the Company or that the existing regulatory barriers will be reduced or eliminated. The Company's rapid growth has placed, and in the future may continue to place, a significant strain on the Company's administrative, operational and financial resources and increased demands on its systems and controls. As the Company increases its service offerings and expands its targeted markets, there will be additional demands on the Company's customer support, sales and marketing and administrative resources and network infrastructure. There can be no assurance that the Company's operating and financial control systems and infrastructure will be adequate to maintain and effectively monitor future growth. The failure to continue to upgrade the administrative, operating and financial control systems or the emergence of unexpected expansion difficulties could materially adversely affect the Company's business, results of operations and financial condition.
RISKS ASSOCIATED WITH INTERNATIONAL OPERATIONS
A key component of the Company's strategy is its planned expansion in international markets. To date, the Company has only limited experience in providing telecommunications service outside the United States and Canada. There can be no assurance that the Company will be able to obtain the capital it requires to finance its expansion in international markets on satisfactory terms or at all. In many international markets, protective regulations and long-standing relationships between potential customers of the Company and their local providers create barriers to entry. Pursuit of international growth opportunities may require significant investments for an extended period before returns, if any, on such investments are realized. In addition, there can be no assurance that the Company will be able to obtain the permits and operating licenses required for it to operate, to hire and train employees or to market, sell and deliver high quality services in these markets. In addition to the uncertainty as to the Company's ability to expand its international presence, there are certain risks inherent in doing business on an international level, such as unexpected changes in regulatory requirements, tariffs, customs, duties and other trade barriers, difficulties in staffing and managing foreign operations, longer payment cycles, problems in collecting accounts receivable, political risks, fluctuations in currency exchange rates, foreign exchange controls which restrict or prohibit repatriation of funds, technology export and import restrictions or prohibitions, delays from customs brokers or government agencies, seasonal reductions in business activity during the summer months in Europe and certain other parts of the world and potentially adverse tax consequences resulting from operating in multiple jurisdictions with different tax laws, which could materially adversely impact the success of the Company's international operations. In many countries, the Company may need to enter into a joint venture or other strategic relationship with one or more third parties in order to successfully conduct its operations. As its revenues from its Canadian and U.K. operations increase, an increasing portion of the Company's revenues and expenses will be denominated in currencies other than U.S. dollars, and changes in exchange rates may have a greater effect on the Company's results of operations. There can be no assurance that such factors will not have a material adverse effect on the Company's future operations and, consequently, on the Company's business, results of operations and financial condition. In addition, there can be no assurance that laws or administrative practices relating to taxation, foreign exchange or other matters of countries within which the Company operates will not change. Any such change could have a material adverse effect on the Company's business, financial condition and results of operations.
DEPENDENCE ON EFFECTIVE INFORMATION SYSTEMS
To complete its billing, the Company must record and process massive amounts of data quickly and accurately. While the Company believes its management information system is currently adequate, it has not grown as quickly as the Company's business and substantial investments are needed. The Company has made arrangements with a consultant and a vendor for the development of new information systems and has budgeted approximately $6.0 million for this purpose in 1996. The Company believes that the successful implementation and integration of these new information systems is important to its continued growth, its ability to monitor costs, to bill customers and to achieve operating efficiencies, but there can be no assurance that the Company will not encounter delays or cost overruns or suffer adverse consequences in implementing the systems. A vendor of the Company's software, which formerly was an affiliate of the Company, has a unique knowledge of certain of the Company's software and the Company may be dependent on the vendor for any modifications to the software. The Company believes that it currently is the only customer of the vendor and, as a result, the vendor is financially dependent on the Company. In addition, as the Company's suppliers revise and upgrade their hardware, software and equipment technology, there can be no assurance that the Company will not encounter difficulties in integrating the new technology into the Company's business or that the new systems will be appropriate for the Company's business. See the discussion ''Business-Information Systems'' above in this Item 1.
RISKS ASSOCIATED WITH ACQUISITIONS, INVESTMENTS AND STRATEGIC ALLIANCES
As part of its business strategy, the Company expects to seek to develop strategic alliances both domestically and internationally and to acquire assets and businesses or make investments in companies that are complementary to its current operations. As of the date of this Report, the Company has no present commitments or agreements with respect to any such strategic alliance, investment or acquisition. Any such future strategic alliances, investments or acquisitions would be accompanied by the risks commonly encountered in strategic alliances with or acquisitions of or investments in companies. Such risks include, among other things, the difficulty of assimilating the operations and personnel of the companies, the potential disruption of the Company's ongoing business, the inability of management to maximize the financial and strategic position of the Company by the successful incorporation of licensed or acquired technology and rights into the Company's service offerings, the maintenance of uniform standards, controls, procedures and policies and the impairment of relationships with employees and customers as a result of changes in management. In addition, the Company has experienced higher attrition rates with respect to customers obtained through acquisitions, and may continue to experience higher attrition rates with respect to any customers resulting from future acquisitions. Moreover, to the extent that any such acquisition, investment or alliance involved a business located outside the United States, the transaction would involve the risks associated with international expansion discussed above under "Risks Associated with International Expansion.'' There can be no assurance that the Company would be successful in overcoming these risks or any other problems encountered with such strategic alliances, investments or acquisitions.
In addition, if the Company were to proceed with one or more significant strategic alliances, acquisitions or investments in which the consideration consists of cash, a substantial portion of the Company's available cash could be used to consummate the strategic alliances, acquisitions or investments. If the Company were to consummate one or more significant strategic alliances, acquisitions or investments in which the consideration consists of stock, shareholders of the Company could suffer a significant dilution of their interests in the Company. Many of the businesses that might become attractive acquisition candidates for the Company may have significant goodwill and intangible assets, and acquisitions of these businesses, if accounted for as a purchase, would typically result in substantial amortization charges to the Company. The financial impact of acquisitions, investments and strategic alliances could have a material adverse effect on the Company's business, financial condition and results of operations and could cause substantial fluctuations in the Company's quarterly and yearly operating results. See the discussion ''Business-Acquisitions, Investments and Strategic Alliances'' above in this Item 1.
TECHNOLOGICAL CHANGES MAY ADVERSELY AFFECT COMPETITIVENESS AND FINANCIAL RESULTS
The telecommunications industry is characterized by rapid and significant technological advancements and introductions of new products and services utilizing new technologies. There can be no assurance that the Company will maintain competitive services or that the Company will obtain appropriate new technologies on a timely basis or on satisfactory terms.
DEPENDENCE ON KEY PERSONNEL
The Company's success depends to a significant degree upon the continued contributions of its management team and technical, marketing and sales personnel. The Company's employees may voluntarily terminate their employment with the Company at any time. Competition for qualified employees and personnel in the telecommunications industry is intense and, from time to time, there are a limited number of persons with knowledge of and experience in particular sectors of the telecommunications industry. The Company's success also will depend on its ability to attract and retain qualified management, marketing, technical and sales executives and personnel. The process of locating such personnel with the combination of skills and attributes required to carry out the Company's strategies is often lengthy. The loss of the services of key personnel, or the inability to attract additional qualified personnel, could have a material adverse effect on the Company's results of operations, development efforts and ability to expand. There can be no assurance that the Company will be successful in attracting and retaining such executives and personnel. Any such event could have a material adverse effect on the Company's business, financial condition and results of operations.
RISK ASSOCIATED WITH FINANCING ARRANGEMENTS; DIVIDEND RESTRICTIONS
The Company's financing arrangements are secured by substantially all of the Company's assets and require the Company to maintain certain financial ratios and restrict the payment of dividends, and the Company anticipates that it will not pay any dividends on Class A Common Stock in the foreseeable future. These financial arrangements will require the repayment of significant amounts and significant reductions in borrowing capacity thereunder during the next five years. The Company's secured lenders would be entitled to foreclose upon those assets in the event of a default under the financing arrangements and to be repaid from the proceeds of the liquidation of those assets before the assets would be available for distribution to the Company's other creditors and shareholders in the event that the Company is liquidated. In addition, the collateral security arrangements under the Company's existing financing arrangements may adversely affect the Company's ability to obtain additional borrowings or other capital. The Company may need to raise additional capital from equity or debt sources to finance its projected growth and capital expenditures contemplated. See the Risk Factor discussion above under ''Substantial Indebtedness; Need for Additional Capital'' and ''Management's Discussion and Analysis of Financial Condition and Results of Operations-Liquidity and Capital Resources'' in Item 7 of this Report.
HOLDING COMPANY STRUCTURE; RELIANCE ON SUBSIDIARIES FOR DIVIDENDS
ACC Corp. is a holding company, the principal assets of which are its operating subsidiaries in the U.S., Canada and the U.K. ACC Canada, a 70% owned subsidiary of ACC Corp., is a public company listed on the Toronto Stock Exchange and the Montreal Stock Exchange. The ability of ACC Canada to declare and pay dividends is restricted by the terms of the agreement under which the Company's Series A Preferred Stock was issued. In addition, ACC Canada's ability to make other payments to ACC Corp. and its other subsidiaries may be dependent upon the taking of action by ACC Canada's Board of Directors, applicable Canadian and provincial law and stock exchange regulations, in addition to the availability of funds. At the present time, three of ACC Canada's seven directors are representatives of ACC Corp. ACC Corp.'s percentage ownership interest in ACC Canada may decrease over time as a result of stock issuances or sales or, alternatively, may increase over time as a result of stock purchases, investments or other transactions. ACC U.S., ACC Canada, ACC U.K. and other operating subsidiaries of the Company are subject to corporate law restrictions on their ability to pay dividends to ACC Corp. There can be no assurance that ACC Corp. will be able to cause its operating subsidiaries to declare and pay dividends or make other payments to ACC Corp. when requested by ACC Corp. The failure to pay any such dividends or make any such other payments could have a material adverse effect upon the Company's business, financial condition and results of operations.
POTENTIAL VOLATILITY OF STOCK PRICE
The market price of the Class A Common Stock has been and may continue to be highly volatile. See the discussion under Item 5 of this Report, "Market for Registrant's Common Equity and Related Shareholder Matters." Factors such as variations in the Company's revenue, earnings and cash flow, the difference between the Company's actual results and the results expected by investors and analysts and announcements of new service offerings, marketing plans or price reductions by the Company or its competitors could cause the market price of the Class A Common Stock to fluctuate substantially. In addition, the stock markets recently have experienced significant price and volume fluctuations that particularly have affected telecommunications companies and resulted in changes in the market prices of the stocks of many companies that have not been directly related to the operating performance of those companies. Such market fluctuations may materially adversely affect the market price of the Class A Common Stock.
RISKS ASSOCIATED WITH DERIVATIVE FINANCIAL INSTRUMENTS
In the normal course of business, the Company uses various financial instruments, including derivative financial instruments, to hedge its foreign exchange and interest rate risks. The Company does not use derivative financial instruments for speculative purposes. By their nature, all such instruments involve risk, including the risk of nonperformance by counterparties, and the Company's maximum potential loss may exceed the amount recognized on the Company's balance sheet. Accordingly, losses relating to derivative financial instruments could have a material adverse effect upon the Company's business, financial condition and results of operations. See ''Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 7 of this Report.
ITEM 2.
ITEM 2. PROPERTIES.
The Company's principal executive offices are located at 400 West Avenue, Rochester, New York in corporate office space leased through June 2004. It also leases office space for its Canadian headquarters in Toronto, Canada, and for its U.K. headquarters in London, England, as well as office space at various other locations. For additional information regarding these leases, see Notes 8 and 10 to the Company's Consolidated Financial Statements contained herein.
The Company has eight switching centers worldwide. The Company's switching equipment for the Rochester call origination area is located at its headquarters at 400 West Avenue, Rochester, New York with additional switching equipment located in Syracuse, New York, in Toronto, Ontario, Montreal, Quebec, and Vancouver, British Columbia, and in London and Manchester, England, all of which sites are leased. Branch sales offices are leased by the Company at various locations in the northeastern U.S., Canada and the U.K. The Company also leases equipment and space located at various sites in its service areas.
The Company's financing arrangements are secured by substantially all of the Company's assets. The Company's secured lenders would be entitled to foreclose upon those assets and to be repaid from the proceeds of the liquidation of those assets in the event of a default under the financing arrangements.
ITEM 3.
ITEM 3. LEGAL PROCEEDINGS.
There were no material legal proceedings pending at December 31, 1995 involving the Company.
ITEM 4.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
PART II
ITEM 5.
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS.
The Company's Class A Common Stock is quoted on The Nasdaq Stock Market's National Market System under the symbol ''ACCC.'' The following table sets forth, for the periods indicated, the high and low sale prices of the Class A Common Stock, as reported by The Nasdaq Stock Market, and the cash dividends declared per share of Class A Common Stock:
Cash Dividends COMMON STOCK PRICE Declared HIGH LOW PER SHARE
1994: First Quarter $ 26 1/4 $17 $0.03 Second Quarter 24 1/4 13 0.03 Third Quarter 19 3/4 12 3/4 0.03 Fourth Quarter 19 13 3/4 0.03
1995: First Quarter $ 19 1/4 $14 $0.03 Second Quarter 17 13 0.03 Third Quarter 19 1/4 14 1/2 --- Fourth Quarter 24 1/8 15 3/4 ---
1996: First Quarter (through March 25, 1996) $ 30 1/4 $22 1/4 ---
On March 1, 1996, the closing price for the Company's Class A Common Stock in trading on The Nasdaq Stock Market was $28.50 per share, as published in The Wall Street Journal. As of March 1, 1996, the Company had approximately 456 holders of record of its Class A Common Stock.
The Company ceased paying quarterly cash dividends on its Class A Common Stock in 1995 to use its cash to invest in the growth of its business. The Company anticipates that future earnings, if any, generated from operations will be retained by the Company to develop and expand its business. Any future determination with respect to the payment of dividends on the Class A Common Stock will be at the discretion of the Board of Directors and will depend upon, among other things, the Company's operating results, financing condition and capital requirements, the terms of then- existing indebtedness and preferred stock, general business conditions, Delaware corporate law limitations and such other factors as the Board of Directors deems relevant. The terms of the Company's Credit Facility prohibit the payment of dividends without the Agents' consent. In addition, the Company is prohibited, under the terms of the Company's Series A Preferred Stock, from paying or declaring any dividend upon the Company's Class A Common Stock unless the prior written consent of the holders of a majority of the outstanding shares of Series A Preferred Stock is obtained. The Company's holding company structure may adversely affect the Company's ability to obtain payments when needed from ACC Corp.'s operating subsidiaries. See the Risk Factor discussions of "Holding Company Structure; Reliance on Subsidiaries for Dividends" in Item 1 of this Report and Note 5 of the Notes to the Company's Consolidated Financial Statements contained in Item 8 of this Report.
ITEM 6.
ITEM 6. SELECTED FINANCIAL DATA.
The following selected historical consolidated financial data for each of the years presented have been derived from the Company's audited consolidated financial statements. The consolidated financial statements of the Company as of December 31, 1994 and 1995 and for each of the three years in the period ended December 31, 1995, together with the notes thereto and related report of Arthur Andersen LLP, independent public accountants, are included elsewhere in this Report. The following data should be read in conjunction with, and are qualified by, the consolidated financial statements and related notes and ''Management's Discussion and Analysis of Financial Condition and Results of Operations,'' which are included in Items 8 and 7 of this Report, respectively.
(1) Includes the results of operations of Metrowide Communications from August 1, 1995, the date of acquisition.
(2) Represents $2,160 of charges incurred in 1994 in connection with enhancement of the Company's network to prepare for equal access for its Canadian customers. See ''Management's Discussion and Analysis of Financial Condition and Results of Operations-1995 Compared With 1994'' in Item 7
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
THE FOLLOWING DISCUSSION INCLUDES CERTAIN FORWARD-LOOKING STATEMENTS. FOR A DISCUSSION OF IMPORTANT FACTORS INCLUDING, BUT NOT LIMITED TO CONTINUED DEVELOPMENT OF THE COMPANY'S MARKETS, ACTIONS OF REGULATORY AUTHORITIES AND COMPETITORS AND DEPENDENCE ON MANAGEMENT INFORMATION SYSTEMS, THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THE FORWARD-LOOKING STATEMENTS, SEE THE DISCUSSION OF ''RISK FACTORS'' IN ITEM 1 OF THIS REPORT AND THE COMPANY'S PERIODIC REPORTS FILED WITH THE SEC.
General
The Company's revenue is comprised of toll revenue and leased lines and other revenue. Toll revenue consists of revenue derived from ACC's long distance and operator-assisted services. Leased lines and other revenue consists of revenue derived from the resale of local exchange services, data line services, direct access lines and monthly subscription fees. Network costs consist of expenses associated with the leasing of transmission lines, access charges and certain variable costs associated with the Company's network. The following table shows the total revenue (net of intercompany revenue) and billable minutes of use attributable to the Company's U.S., Canadian and U.K. operations during each of 1995, 1994 and 1993:
The following table presents certain information concerning toll revenue per billable minute and network cost per billable minute attributable to the Company's U.S., Canadian and U.K. operations during each of 1995, 1994 and 1993:
The Company believes that its historic revenue growth as well as its historic network costs and results of operations for each of its U.S., Canadian and U.K. operations generally reflect the state of development of the Company's operations, the Company's customer mix and the competitive and deregulatory environment in each of those markets. The Company entered the U.S., Canadian and U.K. telecommunications markets in 1982, 1985 and 1993, respectively.
Deregulatory influences have affected the telecommunications industry in the U.S. since 1984 and the U.S. market has experienced considerable competition for a number of years. The competitive influences on the pricing of ACC U.S.'s services and network costs have been stabilizing during the past few years. This may change in the future as a result of recent U.S. legislation that further opens the market to competition, particularly from RBOCs. The Company expects competition based on price and service offerings to increase. See the Risk Factor discussions of "Potential Adverse Effects of Regulation'' and "Increasing Domestic and International Competition" in Item 1 of this Report.
Because the deregulatory trend in Canada, which commenced in 1989, has increased competition, ACC Canada experienced significant downward pressure on the pricing of its services during 1994. The Company expects such downward pressure to continue, although it is expected that the pricing pressure may abate over time as the market matures. The impact of this pricing pressure on revenues of ACC Canada is being offset, in part, by an increase in the Canadian residential and student billable minutes of usage as a percentage of total Canadian billable minutes of usage. Toll revenue per billable minute attributable to residential and student customers in Canada generally exceeds the toll revenue per billable minute attributable to commercial customers. The Company expects that, based on existing and anticipated regulations and rulings, its Canadian contribution charges will increase by up to approximately Cdn. $2 million in 1997 over 1995 levels, which the Company will seek to offset with increased volume efficiencies. The Company also believes that its network costs per billable minute in Canada may decrease during periods after 1996 if there is an anticipated increase in long distance transmission facilities available for lease from Canadian transmission facilities-based carriers as a result of expected growth in the number and capacity of transmission networks in that market. The foregoing forward-looking statements are based upon expectations of actions that may be taken by third parties, including Canadian regulatory authorities and transmission facilities-based carriers. If such third parties do not act as expected, the Company's actual results may differ materially from the foregoing discussion.
The Company believes that, because deregulatory influences have only recently begun to impact the U.K. telecommunications industry, the Company will continue to experience a significant increase in revenue from that market during the next few years. The foregoing belief is based upon expectations of actions that may be taken by U.K. regulatory authorities and the Company's competitors; if such third parties do not act as expected, the Company's revenues in the U.K. might not increase. If ACC U.K. were to experience increased revenues, the Company believes it should be able to enhance its economies of scale and scope in the use of the fixed cost elements of its network. Nevertheless, the deregulatory trend in that market is expected to result in competitive pricing pressure on the Company's U.K. operations which could adversely affect revenues and margins. Since the U.K. market for transmission facilities is dominated by British Telecom and Mercury, the downward pressure on prices for services offered by ACC U.K. may not be accompanied by a corresponding reduction in ACC U.K.'s network costs and, consequently, could adversely affect the Company's business, results of operations and financial condition, particularly in the event revenue derived from the Company's U.K. operations accounts for an increasing percentage of the Company's total revenue. Moreover, the Company's U.K. operations are highly dependent upon the transmission lines leased from British Telecom. See ''Risk Factors-Dependence on Transmission Facilities-Based Carriers and Suppliers'' in Item 1 of this Report. As each of the telecommunications markets in which it operates continues to mature, growth in its revenue and customer base in each such market is likely to decrease over time.
The Company believes that competition in non-U.S. markets is likely to increase and become more like competition in the U.S. markets over time as non-U.S. markets continue to experience deregulatory influences. Prices in the long distance industry have declined from time to time in recent years and, as competition in Canada and the U.K. increases, prices are likely to continue to decrease.
Since the commencement of the Company's operations, the Company has undertaken a program of developing and expanding its service offerings, geographic focus and network. In connection with this development and expansion, the Company has made significant investments in telecommunications circuits, switches, equipment and software. These investments generally are made significantly in advance of anticipated customer growth and resulting revenue. The Company also has increased its sales and marketing, customer support, network operations and field services commitments in anticipation of the expansion of its customer base and targeted geographic markets. The Company expects to continue to expand the breadth and scale of its network and related sales and marketing, customer support and operations activities. These expansion efforts are likely to cause the Company to incur significant increases in expenses from time to time, in anticipation of potential future growth in the Company's customer base and targeted geographic markets.
The Company's operating results have fluctuated in the past and they may continue to fluctuate significantly in the future as a result of a variety of factors, some of which are beyond the Company's control. The Company expects to focus in the near term on building and increasing its customer base, service offerings and targeted geographic markets, which will require it to increase significantly its expenses for marketing, and development of its network and new services and may adversely impact operating results from time to time. The Company's sales to other long distance carriers have been increasing. Revenues from other resellers accounted for approximately 22%, 7% and 9% of the revenues of ACC U.S., ACC Canada and ACC U.K., respectively, in 1995, and are expected to account for a higher percentage in the future. With respect to these customers, the Company competes almost exclusively on price, does not have long term contracts and generates lower gross margins as a percentage of revenue. See ''Risk Factors-Recent Losses; Potential Fluctuations in Operating Results" in Item 1 of this Report.
RESULTS OF OPERATIONS
The following table presents, for the three years ended December 31, 1995, certain statement of operations data expressed as a percentage of total revenue:
(1) Includes the results of operations of Metrowide Communications from August 1, 1995, the date of acquisition.
1995 COMPARED WITH 1994
Revenue. Total revenue for 1995 increased by 49.4% to $188.9 million from $126.4 million in 1994, reflecting growth in both toll revenue and leased lines and other revenue. Toll revenue for 1995 increased by 48.1% to $175.2 million from $118.3 million in 1994. In the United States, toll revenue increased 19.3% as a result of a 9.2% increase in billable minutes of use and a more favorable mix of toll services provided, offset slightly by a decrease in prices per minute. The volume increases are primarily a result of increased revenue attributable to other U.S. carriers (approximately $5.8 million), commercial (approximately $33.8 million), residential (approximately $3.6 million) and student (approximately $10.5 million) customers in the Company's service region. In Canada, toll revenue increased 20.9%, primarily as a result of a 23.8% increase in billable minutes (primarily because of a 47.3% increase in the number of customer accounts from approximately 104,000 to 153,000), offset by a slight decline in prices. The price declines are a result of the price competition, particularly in Canada, in 1994 which decreased rates in the middle of that year. Since the end of 1994, ACC's revenues per minute on a consolidated basis have been increasing slightly as a result of the increasing percentage of U.K. revenues and the Company's successful introduction of higher price per minute products. In the United Kingdom, toll revenue increased 830.7%, due to significant volume increases (including a 310% increase in the number of customer accounts from approximately 11,000 to 45,000), offset by lower prices that resulted from entering the commercial and residential markets and from competitive pricing pressure. Exchange rates did not have a material impact on revenue in either the U.K. or in Canada. At December 31, 1995, the Company had approximately 311,000 customer accounts compared to approximately 203,000 customer accounts at December 31, 1994, an increase of 53%. During 1995, customer accounts increased from 88,589 to 113,717 in the U.S.; from 103,535 to 152,504 in Canada; and from 10,867 to 44,594 in the U.K. See the discussion under "Business-Sales and Marketing" in Item 1 above in this Report.
For 1995, leased lines and other revenue increased by 67.6% to $13.6 million from $8.1 million in 1994. This increase was due to the Metrowide Communications acquisition as of August 1, 1995 (approximately $2.9 million from the date of acquisition through year end), local service revenue (approximately $1.5 million) generated through the university program in the U.S. and the local exchange operations in upstate New York, which generated nominal revenues in 1994.
NETWORK COSTS. Network costs increased to $114.8 million for 1995, from $79.4 million in 1994, due to the increase in billable long distance minutes. However, network costs, expressed as a percentage of revenue, decreased to 60.8% for 1995 from 62.8% in 1994 due to reduced contribution charges in Canada and increased volume efficiencies in the U.K. Contribution charges represented 5.2% of revenue in 1995 as compared to 10.1% in 1994. These efficiencies were partially offset by reduced margins in the U.S. due to increased carrier traffic.
OTHER OPERATING EXPENSES. Depreciation and amortization expense increased to $11.6 million for 1995 from $8.9 million in 1994. Expressed as a percentage of revenue, these costs decreased to 6.1% in 1995 from 7.1% in 1994, reflecting the increases in revenue realized during 1995. The $2.7 million increase in depreciation and amortization expense was primarily attributable to assets placed in service in the fourth quarter of 1994 and during 1995, particularly equipment at U.S. university sites, switching centers in London and Manchester in the U.K., and switch upgrades in Rochester, Syracuse, Vancouver and Toronto. Amortization of approximately $0.4 million associated with the customer base and goodwill recorded in the Metrowide Communications acquisition also contributed to the increase.
Selling expenses for 1995 increased by 49.1% to $21.6 million compared with $14.5 million in 1994. Expressed as a percentage of revenue, selling expenses were 11.4% for 1995 compared to 11.5% for 1994. The $7.1 million increase in selling expenses was primarily attributable to increased marketing costs and sales commissions associated with the rapid growth of the Company's operations in Canada (approximately $1.7 million) and the U.K. (approximately $5.6 million). General and administrative expenses for 1995 were $39.2 million compared with $29.7 million in 1994. Expressed as a percentage of revenue, general and administrative expenses were 20.8% for 1995, compared to 23.5% in 1994. The increase in general and administrative expenses was primarily attributable to a $9.5 million increase in personnel and customer service costs associated with the growth of the Company's customer bases and geographic expansion in each country. Also included in general and administrative expenses for 1995 was approximately $1.8 million related to the Company's local service market sector in New York State.
The Company also incurred in 1995 non-recurring costs of $1.3 million related to management restructuring. These costs consisted of a $0.8 million payment in consideration of a non-compete agreement with the Chairman of the Board which was negotiated and agreed to in connection with his resignation as Chief Executive Officer. The remaining $0.5 million related to severance expenses relating to three other members of executive management, the terms of which were negotiated at the time of the executives' departures based on their existing agreements with the Company. In connection with the departure of one executive, the vesting schedule for options to purchase 16,150 shares of Class A Common Stock (out of the options to purchase a total of 33,600 shares which had been granted to the executive) were accelerated to allow him to exercise the options.
During the third quarter of 1994, the Company initiated the process of enhancing its network to prepare for equal access for its Canadian customers. "Equal access" allows customers to place a call over the Company's network simply by dialing "1" plus the area code and telephone number. Before equal access was available, the Company needed to install a "dialer" on its customers' premises or require the customer to dial an access code before placing a long distance call. Costs associated with this process included maintaining duplicate network facilities during transition, recontacting customers and the administrative expenses associated with accumulating the data necessary to convert the Company's customer base to equal access. This process was completed during the fourth quarter of 1994 at a total cost of $2.2 million, which has been reflected as a charge to income from operations for 1994. This network enhancement, the costs of which are non-recurring, will enable the Company to offer a broader range of services to Canadian customers and increase customer convenience in using the Company's telecommunications services.
OTHER INCOME (EXPENSE). Net interest expense increased to $4.9 million for 1995 compared to $1.9 million in 1994, due primarily to the Company's increased weighted average borrowings on revolving lines of credit (approximately $3.1 million) related to financing of university projects in the U.S., expansion of the U.K. and the local service businesses during 1995, write-off of deferred financing costs (approximately $0.3 million) related to the Company's lines of credit which were refinanced in July 1995, debt service costs associated with 12% subordinated notes issued in May 1995 (approximately $0.4 million), and contingent interest associated with the Credit Facility (approximately $0.3 million). On September 1, 1995, the subordinated notes were exchanged for Series A Preferred Stock and, consequently, there will be no further interest expense associated with the 12% subordinated notes. The Series A Preferred Stock accrues dividends at the rate of 12% per annum. Upon any conversion of Series A Preferred Stock, the accrued and unpaid dividends thereon will be extinguished and no longer deemed payable.
Foreign exchange gains and losses reflect changes in the value of Canadian and British currencies relative to the U.S. dollar for amounts lent to foreign subsidiaries. Foreign exchange rate changes resulted in a net loss of $0.1 million for 1995, compared to a $0.2 million gain in 1994. The Company continues to hedge all foreign currency transactions in an attempt to minimize the impact of transaction gains and losses on the income statement. The Company does not engage in speculative foreign currency transactions.
During 1994, the Company increased its income tax provision to provide for a valuation allowance equal to 100% of the amount of the Company's foreign tax benefits which had been recorded at December 31, 1993. No income tax benefits have been recorded for the 1995 operating losses in Canada or the U.K. due to the uncertainty of recognizing the income tax benefit of those losses in the future.
Minority interest in loss of consolidated subsidiary reflects the portion of the Company's Canadian subsidiary's income or loss attributable to the approximately 30% of that subsidiary's common stock that is publicly traded in Canada. For 1995, minority interest in earnings of the consolidated subsidiary was a loss of $0.1 million compared to a gain of $2.4 million in 1994.
The Company's net loss for 1995 was $5.4 million, compared to $11.3 million in 1994. The 1995 net loss resulted primarily from the expansion of operations in the U.K. (approximately $6.8 million), increased net interest expense associated with additional borrowings (approximately $4.9 million), increased depreciation and amortization from the addition of equipment and costs associated with the expansion of local service in New York State (approximately $1.6 million) and management restructuring costs (approximately $1.3 million), offset by positive operating income from the U.S. and Canadian long distance subsidiaries of approximately $9.0 million.
1994 COMPARED WITH 1993
Revenue. Total revenue for 1994 increased by 19.3% to $126.4 million from $105.9 million in 1993, reflecting growth in toll revenue and leased lines and other revenue. Toll revenue for 1994 increased by 17.6% to $118.3 million from $100.6 million in 1993. This increase was due to the continued expansion of the Company's university program in the U.S., Canada, and the U.K., and growth in both the commercial and residential customer bases in Canada through affinity programs and expansion throughout Western Canada. For a discussion of the Company's affinity programs, see the discussion under "Business-Sales and Marketing" in Item 1 of this Report. At December 31, 1994, the Company had approximately 203,000 customer accounts compared to approximately 98,000 customer accounts at December 31, 1993, an increase of more than 100%. During 1994, customer accounts increased from 50,287 to 88,589 in the U.S.; from 45,615 to 103,535 in Canada; and from 2,000 to 10,867 in the U.K.
For 1994, leased lines and other revenue increased by 53.1% to $8.1 million from $5.3 million in 1993. This increase was due to growth in data line sales in Canada as well as increased local service revenue generated through the university program in the U.S.
NETWORK COSTS. Network costs increased to $79.4 million for 1994, from $70.3 million in 1993, due to the increase in billable long distance minutes. Network costs, as a percentage of revenue, decreased to 62.8% for 1994 from 66.3% in 1993 due to the Company's more efficient utilization of its leased facilities in Canada through economies of scale and a more favorable mix of traffic from increased residential and student usage during off peak hours, which combined to decrease network costs by 4.4% of total consolidated revenue.
OTHER OPERATING EXPENSES. Depreciation and amortization expense increased to $8.9 million for 1994, from $5.8 million in 1993. Expressed as a percentage of revenue, these costs increased to 7.1% in 1994 from 5.5% in 1993, reflecting the cost of investments in additional equipment (approximately $19.3 million) in the U.S., Canada and the U.K. incurred in advance of anticipated billable minute volume growth. The $3.1 million increase in depreciation and amortization expense was primarily attributable to assets placed in service in the fourth quarter of 1993 and the first three quarters of 1994 related to the Company's continued expansion of its network throughout Canada, the installation of additional switches (approximately $5.2 million) and increased on- site equipment at universities in the U.S. (approximately $2.9 million).
Selling expenses for 1994 increased by 66.1% to $14.5 million from $8.7 million in 1993. Expressed as a percentage of revenue, selling expenses were 11.5% for 1994 compared to 8.2% in 1993. This increase was attributable in part to the aggressive expansion of the Company's marketing territory into Western Canada, including the expansion following the installation of a switch in Vancouver, British Columbia and the opening of sales offices in Calgary, Alberta and Winnipeg, Manitoba (approximately $0.3 million) and the start-up of a nationwide marketing campaign in the U.K. during the second half of 1994 (approximately $0.5 million). During 1994, the Company added over 100,000 customers compared to approximately 46,000 added in 1993. The total costs of the marketing effort related to these customers are reflected in the results for the year while the revenue generated by the majority of these customers (universities and students) did not begin until the end of the third quarter corresponding to the beginning of the fall semester for most colleges and universities. General and administrative expenses for 1994 increased by 48.1% to $29.7 million from $20.1 million in 1993. Expressed as a percentage of revenue, general and administrative expenses were 23.5% for 1994 compared to 19.0% in 1993. The increase was primarily attributable to increased personnel costs (approximately $5.1 million) and customer service costs (approximately $0.6 million) associated with the growth of the Company's customer bases in each country. Also included in general and administrative expenses for 1994 was approximately $3.0 million in start-up costs related to the Company's entry into the local service market sector in New York state which occurred during the fourth quarter of 1994.
During 1993, the Company recorded a non-cash expense of $12.8 million related to the write-down of the carrying value of certain assets of its U.S. and Canadian operations. This charge included approximately $5.1 million relating to certain fixed assets, including equipment used in connection with a microwave network deemed obsolete due to technological changes, $1.2 million related to the goodwill and customer bases from U.S. acquisitions, $2.8 million pertaining to an acquired customer base and accounts receivable relating to acquisitions made by ACC Canada and $3.8 million relating to autodialing equipment of ACC Canada resulting from the anticipated implementation by the CRTC of equal ease of access regulations in July 1994.
OTHER INCOME (EXPENSE). Net interest expense increased to $1.9 million for 1994 compared to $0.2 million in 1993, due primarily to the Company's increased borrowings on lines of credit throughout 1994. During 1994, the Company incurred terminated merger costs of $0.2 million resulting from a transaction which was not completed. During 1993, the Company recognized gains of $9.3 million from the sale of stock in its Canadian subsidiary and $10.2 million (net of provision for income taxes) from the sale of the Company's cellular assets.
Foreign exchange gains and losses reflect changes in the value of Canadian and British currencies relative to the U.S. dollar for amounts lent to these foreign subsidiaries. Foreign exchange rate changes resulted in a net gain of $0.2 million for 1994, compared to a $1.1 million loss in 1993 due to the Company's program of hedging against foreign currency exposures for intercompany indebtedness which began at the end of 1993.
During 1994, the Company increased its income tax provision to provide for a valuation allowance equal to 100% of the amount of the Company's foreign tax benefits which had been recorded at December 31, 1993. These benefits had been accrued based on the Company's history of profitability in Canada. However, given the magnitude of the Canadian subsidiary's losses in 1994, the Company believed that a valuation allowance was necessary to reflect the uncertainty of realizing the income tax benefits of those losses in the future.
Minority interest in loss of consolidated subsidiary reflects the portion of the Company's Canadian subsidiary's income or loss attributable to the approximately 30% of that subsidiary's common stock that is publicly traded in Canada. For 1994, minority interest in loss of consolidated subsidiary increased to $2.4 million from $1.7 million in 1993 due to the increase in net losses generated by ACC Canada in 1994 when compared to 1993.
During the third quarter of 1993, the Company recognized a gain of $11.5 million, net of taxes, from the sale of the operating assets and liabilities of its former cellular subsidiary, Danbury Cellular Telephone Co. The operating loss from these discontinued operations was $1.3 million for 1993, resulting in a net gain on the disposition of these operations of $10.2 million.
The Company's net loss for 1994 was $11.3 million compared to net income of $11.9 million in 1993. The 1994 net loss resulted primarily from operating losses due to expansion in the U.K. (approximately $5.6 million), the recording of the valuation allowance against deferred tax benefits (approximately $3.0 million), implementation of equal access in Canada (approximately $2.2 million) and operating losses due to expansion in local telephone service in the U.S. (approximately $0.9 million). The 1993 net income was primarily attributable to the gain on the sale of the Company's cellular assets.
LIQUIDITY AND CAPITAL RESOURCES
The Company historically has satisfied its working capital requirements through cash flow from operations, through borrowings and financings from financial institutions, vendors and other third parties, and through the issuance of securities. In addition, the Company used the proceeds from the 1993 sale of ACC Canada common stock and the 1993 sale of its cellular operations to fund the expansion of its operations in Canada and the U.K. During 1995, the Company raised $20.0 million, through the issuance of 825,000 shares of Class A Common Stock for $11.1 million (net of issuance expense) and notes which were exchanged for 10,000 shares of Series A Preferred Stock for $8.9 million (net of issuance expenses). The proceeds from the 1995 issuances of Class A Common Stock and notes were used to reduce indebtedness and for working capital and capital expenditures. In July 1995, the Company entered into the five-year $35.0 million Credit Facility.
Net cash flows generated by operations was $1.1 million and $4.0 million during 1994 and 1995, respectively. The increase of approximately $2.9 million in the cash flow provided by operating activities during 1995 versus 1994 was primarily attributable to the improved financial performance of ACC Canada during 1995 in comparison to 1994 and an increase in accounts receivable resulting from the expansion in the Company's customer base and related revenues which was partially offset by a decline in other receivables. If additional competition were to result in significant price reductions that are not offset by reductions in network costs, net cash flows from operations would be materially adversely affected.
Net cash flows used in investing activities was $21.0 million and $15.3 million during 1994 and 1995, respectively. The decrease of approximately $5.7 million in net cash flow used in investing activities during 1995 versus 1994 was principally attributable to a decrease in capital expenditures incurred by the Company, which was partially offset by the use of cash flow in connection with the Metrowide Communications acquisition.
Accounts receivable increased by $18.5 million during 1995 as a result of the expansion of the Company's customer base due to sales and marketing efforts, the Metrowide Communications acquisition and a customer base acquisition. Sales to customers in Canada and the U.K. in 1995 represented approximately 65.1% of total revenues, as opposed to 56.8% in 1994. Account balances from the Company's customers in Canada and the U.K. are typically outstanding longer than those in the U.S. market. In addition, the Company acquired approximately $0.9 million of Canadian accounts receivable in 1995 without a corresponding increase in revenues as a result of the Metrowide Communications acquisition. The Company's sales to other carriers (which typically pay more slowly than other customers of the Company) also increased during 1995. Accounts receivable, expressed as a percentage of total revenue, increased to 20.6% for 1995 from 16.2% in 1994.
The acquisition of Metrowide Communications was accounted for as a purchase and resulted in the allocation of approximately $5.0 million to goodwill, which will be amortized over five years from the date of acquisition. Accounts payable decreased by $3.2 million during 1995, principally as a result of the payment of an accrued payable which existed at December 31, 1994 relating to a capital project completed during 1995. Accrued network costs increased by $17.7 million during 1995, principally as a result of the incurrence of costs relating to the leasing and usage of transmission facilities in order to accommodate actual and potential future growth in the Company's customer base, particularly in the U.K. Accrued network costs also increased due to delays in billing by British Telecom in the U.K.
Other accrued expenses increased by $6.4 million during 1995. This increase was primarily related to an increase in accrued taxes of approximately $2.6 million, an increase in accrued commissions, compensation and benefits of approximately $1.3 million, an increase in accruals relating to customers and service providers of approximately $0.8 million, and an increase in recurring general business accruals of approximately $1.7 million.
The Company's principal need for working capital is to meet its selling, general and administrative expenses as its business expands. In addition, the Company's capital resources have been used for the Metrowide Communications acquisition, capital expenditures, various customer base acquisitions and, prior to the termination thereof during the second quarter of 1995, payments of dividends to holders of its Class A Common Stock. The Company has had a working capital deficit at the end of the last several years and, at December 31, 1995, the Company had a working capital deficit of approximately $10.3 million. This related to short term debt associated with the Metrowide Communications acquisition and delays in billings from, or the resolution of billing discussions with, vendors. The Company has experienced delays from time to time in billings from carriers from which it leases transmission lines. In addition, prior to making payment to the carriers, the Company typically needs to resolve discrepancies between the amount billed by the carriers and the Company's records concerning usage of leased lines. The Company accrues an expense for the amount of its estimated obligation to the carriers pending the resolution of such discussions. During 1995, the Company's EBITDA minus capital expenditures and changes in working capital was $(7.0) million.
The Company anticipates that, during 1996, its capital expenditures will be approximately $26.0 million for the expansion of its network, the acquisition, upgrading and development of switches and other telecommunications equipment as conditions warrant, the development, licensing and integration of its management information system and other software, the development and expansion of its service offerings and customer programs and other capital expenditures. ACC expects that it will continue to make significant capital expenditures during future periods. The Company's actual capital expenditures and cash requirements will depend on numerous factors, including the nature of future expansion (including the extent of local exchange services, which is particularly capital intensive) and acquisition opportunities, economic conditions, competition, regulatory developments, the availability of capital and the ability to incur debt and make capital expenditures under the terms of the Company's financing arrangements. Prior to 1995, the Company had funded capital expenditures through its credit facilities and other short term debt arrangements, which were refinanced in 1995 with the Credit Facility.
The Company is obligated to pay the lenders under the Credit Facility a contingent interest payment based on the appreciation in market value of 140,000 shares of the Company's Class A Common Stock from $14.92 per share, subject to a minimum of $0.75 million and a maximum of $2.1 million. The payment is due upon the earlier of (I) January 21, 1997, (ii) any material amendment to the Credit Facility, (iii) the signing of a letter of intent to sell the Company or any material subsidiary, or (iv) the cessation of active trading of the Company's Class A Common Stock on other than a temporary basis. The Company is accruing this obligation over the 18-month period ending January 21, 1997 ($0.6 million has been accrued through March 1, 1996).
Any holder of Series A Preferred Stock has the right to cause the Company to redeem such Series A Preferred Stock upon the occurrence of certain events, including the entry of a judgment against the Company or a default by the Company under any obligation or agreement for which the amount involved exceeds $500,000.
As of January 31, 1996, the Company had approximately $0.9 million of cash and cash equivalents and maintained the $35.0 million Credit Facility, subject to availability under a borrowing base formula and certain other conditions (including borrowing limits based on the Company's operating cash flow), under which borrowings of approximately $19.0 million were outstanding, approximately $13.0 million was available for borrowing and $3.0 million was reserved for letters of credit. The maximum aggregate principal amount of the Credit Facility is required to be reduced by $2.5 million per quarter commencing on July 1, 1997 and by $2.9 million per quarter commencing on January 1, 1999 until maturity on July 1, 2000. During 1995 the Company entered into swap agreements with respect to $11.5 million of indebtedness under the Credit Facility, as required by the terms of the Credit Facility. The swap agreements expire at various times through December 1998 and require the Company to pay interest at rates ranging from 5.98% to 6.25% per annum and permit the Company to receive interest at variable rates.
The Company also is obligated to pay, on demand commencing in August of 1996, the remaining $1.1 million (after the February 1996 payment) pursuant to a note issued in connection with the Metrowide Communications acquisition. In addition, the Company has $2.9 million, $2.6 million and $2.1 million of capital lease obligations which mature during 1996, 1997 and 1998, respectively. The Company's financing arrangements, which are secured by substantially all of the Company's assets and the stock of certain subsidiaries, require the Company to maintain certain financial ratios and prohibit the payment of dividends.
In the normal course of business, the Company uses various financial instruments, including derivative financial instruments, for purposes other than trading. These instruments include letters of credit, guarantees of debt, interest rate swap agreements and foreign currency exchange contracts relating to intercompany payables of foreign subsidiaries. The Company does not use derivative financial instruments for speculative purposes. Foreign currency exchange contracts are used to mitigate foreign currency exposure and are intended to protect the U.S. dollar value of certain currency positions and future foreign currency transactions. The aggregate fair value, based on published market exchange rates, of the Company's foreign currency contracts at December 31, 1995 was $24.5 million. Interest rate swap agreements are used to reduce the Company's exposure to risks associated with interest rate fluctuations. The Company was party to interest rate swap agreements at December 31, 1995 which had the effect of converting interest in respect of $11.5 million principal amount of the Credit Facility to a fixed rate. As is customary for these types of instruments, collateral is generally not required to support these financial instruments.
By their nature, all such instruments involve risk, including the risk of nonperformance by counterparties, and the Company's maximum potential loss may exceed the amount recognized on the Company's balance sheet. However, at December 31, 1995, in management's opinion there was no significant risk of loss in the event of nonperformance of the counterparties to these financial instruments. The Company controls its exposure to counterparty credit risk through monitoring procedures and by entering into multiple contracts, and management believes that reserves for losses are adequate. Based upon the Company's knowledge of the financial position of the counterparties to its existing derivative instruments, the Company believes that it does not have any significant exposure to any individual counterparty or any major concentration of credit risk related to any such financial instruments.
The Company believes that, under its present business plan, the net proceeds from a public offering of up to 2,012,500 shares of its Class A Common Stock for which the Company has filed a Registration Statement on Form S-3 with the SEC, together with borrowings under the Credit Facility, vendor financing and cash from operations will be sufficient to meet anticipated working capital and capital expenditure requirements of its existing operations. The forward-looking information contained in the previous sentence may be affected by a number of factors, including the matters described in this paragraph and under ''Risk Factors'' in Item 1 of this Report. The Company may need to raise additional capital from public or private equity or debt sources in order to finance its operations, capital expenditures and growth for periods after 1996 and for the optional redemption of Series A Preferred Stock if it is not converted. Moreover, the Company believes that continued growth and expansion through acquisitions, investments and strategic alliances is important to maintain a competitive position in the market and, consequently, a principal element of the Company's business strategy is to develop relationships with strategic partners and to acquire assets or make investments in businesses that are complementary to its current operations. The Company may need to raise additional funds in order to take advantage of opportunities for acquisitions, investments and strategic alliances or more rapid international expansion, to develop new products or to respond to competitive pressures. If additional funds are raised through the issuance of equity securities, the percentage ownership of the Company's then current shareholders may be reduced and such equity securities may have rights, preferences or privileges senior to those of holders of Class A Common Stock. There can be no assurance that the Company will be able to raise such capital on acceptable terms or at all. In the event that the Company is unable to obtain additional capital or is unable to obtain additional capital on acceptable terms, the Company may be required to reduce the scope of its presently anticipated expansion opportunities and capital expenditures, which could have a material adverse effect on its business, results of operations and financial condition and could adversely impact its ability to compete.
The Company may seek to develop relationships with strategic partners both domestically and internationally and to acquire assets or make investments in businesses that are complementary to its current operations. Such acquisitions, strategic alliances or investments may require that the Company obtain additional financing and, in some cases, the approval of the holders of debt or preferred stock of the Company. The Company's ability to effect acquisitions, strategic alliances or investments may be dependent upon its ability to obtain such financing and, to the extent applicable, consents from its debt or preferred stock holders.
SFAS NO. 123
The Company is required to adopt SFAS No. 123, ''Accounting for Stock-Based Compensation'' in 1996. This Statement encourages entities to adopt a fair value based method of accounting for employee stock option plans (whereby compensation cost is measured at the grant date based on the value of the award and is recognized over the employee service period) rather than the current intrinsic value based method of accounting (whereby compensation cost is measured at the grant date as the difference between market value and the price for the employee to acquire the stock). If the Company elects to continue using the intrinsic value method of accounting, pro forma disclosures of net income and earnings per share, as if the fair value based method of accounting had been applied, will need to be disclosed. Management has not decided if the Company will adopt the fair value based method of accounting for the Company's stock option plans. The Company believes that adopting the fair value basis of accounting could have a material impact on the financial statements and such impact is dependent upon future stock option activity.
ITEM 8.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
SUPPLEMENTAL INFORMATION: SELECTED QUARTERLY FINANCIAL DATA
The following table sets forth certain unaudited quarterly financial data for the preceding eight quarters through the quarter ended December 31, 1995. In the opinion of management, the unaudited information set forth below has been prepared on the same basis as the audited information set forth elsewhere herein and includes all adjustments (consisting only of normal recurring adjustments) necessary to present fairly the information set forth herein. The operating results for any quarter are not necessarily indicative of results for any future period.
The Company's quarterly operating results have fluctuated and will continue to fluctuate from period to period depending upon factors such as the success of the Company's efforts to expand its geographic and customer base, changes in, and the timing of expenses relating to, the expansion of the Company's network, regulatory and competitive factors, the development of new services and sales and marketing and changes in pricing policies by the Company or its competitors. In view of the significant historic growth of the Company's operations, the Company believes that period-to-period comparisons of its financial results should not be relied upon as an indication of future performance and that the Company may experience significant period- to-period fluctuations in operating results in the future. See ''Risk Factors-Recent Losses; Potential Fluctuations in Operating Results" in Item 1 of this Report.
Historically, a significant percentage of the Company's revenue has been derived from university and college administrators and students, which caused its business to be subject to seasonal variation. To the extent that the Company continues to derive a significant percentage of its revenues from university and college customers, the Company's results of operations could remain susceptible to seasonal variation.
During the third quarter of 1994, the Company initiated the process of enhancing its network to prepare for the introduction of equal access for its Canadian customers. The acquisition of Metrowide Communications and the management restructuring charges in 1995, and the Canadian equal access costs in 1994, affect the comparability of the quarterly financial data set forth above. See "Management's Discussion and Analysis, Results of Operations-1995 Compared With 1994-Other Charges" above in Item 7 of this Report.
FINANCIAL STATEMENTS
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Shareholders of ACC Corp.:
We have audited the accompanying consolidated balance sheets of ACC Corp. (a Delaware corporation) and subsidiaries as of December 31, 1995 and 1994, and the related consolidated statements of operations, changes in shareholders' equity and cash flows for each of the three years in the period ended December 31, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of ACC Corp. and subsidiaries as of December 31, 1995 and 1994, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1995, in conformity with generally accepted accounting principles.
Rochester, New York /s/ARTHUR ANDERSEN LLP February 6, 1996
(Except with respect to the matters discussed in Notes 10 and 11.A, as to which the dates are February 20, 1996 and February 8, 1996, respectively)
The accompanying notes to consolidated financial statements are an integral part of these balance sheets.
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART OF THESE BALANCE SHEETS.
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART OF THESE STATEMENTS.
The accompanying notes to consolidated financial statements are an integral part of these statements.
THE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ARE AN INTEGRAL PART OF THESE STATEMENTS.
ACC CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) (AMOUNTS IN THOUSANDS)
The accompanying notes to consolidated financial statements are an integral part of these statements.
ACC CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A. PRINCIPLES OF CONSOLIDATION:
The consolidated financial statements include all accounts of ACC Corp. (a Delaware corporation) and its direct and indirect subsidiaries (the ''Company'' or ''ACC''). Principal operating subsidiaries include: ACC Long Distance Corp. (U.S.), ACC TelEnterprises Ltd. (Canada), ACC Long Distance UK Ltd., and ACC National Telecom Corp. All operating subsidiaries are wholly- owned, with the exception of ACC TelEnterprises Ltd. (See B. below). All significant intercompany accounts and transactions have been eliminated.
The accompanying consolidated financial statements reflect the results of operations of acquired companies since their respective acquisition dates.
B. SALE OF SUBSIDIARY STOCK:
On July 6, 1993, the Company's then wholly-owned Canadian subsidiary, ACC TelEnterprises Ltd., completed an initial public offering of 2 million common shares for Cdn. $11.00 per share. The Company received net proceeds of approximately Cdn. $20.7 million after underwriters' fees and before other direct costs of the offering of Cdn. $1.3 million. As a result of the offering, ACC Corp.'s ownership was reduced to approximately 70 percent.
The Company recognized a gain of $9.3 million after related expenses on this transaction due to the increase in the carrying amount of the Company's investment in ACC TelEnterprises Ltd. No deferred taxes have been provided for on this gain as the Company has the ability to defer the recognition of taxable income related to this transaction indefinitely.
Minority interest represents the approximately 30% non-Company owned shareholder interest in ACC TelEnterprises Ltd.'s equity primarily resulting from the 1993 public offering. Assuming the sale of subsidiary stock occurred on January 1, 1993, then, on a pro forma basis, the minority interest in loss of the consolidated subsidiary would have been approximately $1.6 million for the year ended December 31, 1993. This pro forma information has been prepared for comparative purposes only. During 1994, the Company repurchased 58,300 shares of ACC TelEnterprises Ltd. stock for approximately $3.69 per share.
C. TOLL REVENUE:
The Company records as revenue the amount of communications services rendered, as measured by the related minutes of toll traffic processed or flat-rate services billed, after deducting an estimate of the traffic or services which will neither be billed nor collected.
D. OTHER RECEIVABLES:
Other receivables consist of operating receivables primarily related to the financing of university projects (approximating $3,039,000 and 2,920,000 at December 31, 1995 and 1994, respectively). Other components include taxes receivable (approximating $650,000 at December 31, 1995 and approximately $1,791,000 at December 31, 1994) and other nominal, miscellaneous receivables (approximating $276,000 and $722,000 at December 31, 1995 and 1994, respectively).
E. PROPERTY, PLANT AND EQUIPMENT:
The Company's property, plant and equipment consisted of the following at December 31, 1994 and 1995 (dollars in thousands):
1995 1994 Equipment $69,174 $53,700 Computer software and software licenses 6,869 4,648 Other 7,580 4,270 TOTAL $83,623 $62,618
Depreciation and amortization of property, plant and equipment is computed using the straight-line method over the following estimated useful lives:
Leasehold improvements Life of lease Equipment, including assets under capital leases 2 to 15 years Computer software and software licenses 5 to 7 years Office equipment and fixtures 3 to 10 years Vehicles 3 years
Equipment and computer software include assets financed under capital lease obligations. A summary of these assets at December 31, 1994 and 1995 is as follows (dollars in thousands):
1995 1994
Cost $13,935 $7,360 Less-accumulated amortization (4,538) (3,482) Total, net $ 9,397 $ 3,878
Betterments, renewals, and extraordinary repairs that extend the life of the asset are capitalized; other repairs and maintenance are expensed. The cost and accumulated depreciation applicable to assets retired are removed from the accounts and the gain or loss on disposition is recognized in income.
F. DEFERRED INSTALLATION COSTS:
Costs incurred for the installation of local access lines are amortized on a straight-line basis over a three-year period which represents the average estimated useful life of these lines. Accumulated amortization of deferred installation costs totaled approximately $3.3 million and $4.5 million at December 31, 1994 and 1995, respectively.
G. GOODWILL AND CUSTOMER BASE:
All of the Company's acquisitions have been accounted for as purchases and, accordingly, the purchase prices were allocated to the assets and liabilities of the acquired companies based on their fair values at the acquisition date.
As of August 1, 1995, ACC TelEnterprises Ltd. acquired Metrowide Communications (''Metrowide'') in a business combination accounted for as a purchase. Metrowide is based in Toronto, Canada, and provides local and long distance services to Ontario, Canada based customers. The results of operations of Metrowide are included in the accompanying financial statements since the date of acquisition. The total cost of the acquisition was Cdn. $14.7 million (U.S. $10.8 million) including Cdn. $8.7 million (U.S. $6.3 million) of liabilities assumed, of which Cdn. $2.0 million (U.S. $1.5 million) was paid at the date of purchase, with the remaining Cdn. $4.0 million (U.S. $3.0 million) due in installments through August 1, 1996.
Goodwill associated with the Metrowide purchase of Cdn. $7.0 million (U.S. $5.0 million) is being amortized over 20 years, and customer base of Cdn. $4.2 million (U.S. $3.1 million) is being amortized over five years. Accumulated amortization of goodwill approximated U.S. $108,000 at December 31, 1995.
The Company amortizes acquired customer bases on a straight-line basis over five to seven years. Accumulated amortization of customer base totaled $1.7 million and $3.1 million at December 31, 1994 and 1995, respectively.
During 1995, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 121, ''Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of.'' This Statement requires that long-lived assets and certain identifiable intangibles to be held and used by an entity be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable and requires that an impairment loss be recognized based on the existence of certain conditions. This Statement also requires that long-lived assets and certain identifiable intangibles to be disposed of be reported at the lower of their carrying amount or fair value less cost to sell.
The effect of adopting SFAS No. 121 was immaterial to the consolidated financial statements. The Company continually evaluates its intangible assets in light of events and circumstances that may indicate that the remaining estimated useful life may warrant revision or that the remaining value may not be recoverable. When factors indicate that intangible assets should be evaluated for possible impairment, the Company uses an estimate of the undiscounted cash flow over the remaining life of the intangible asset in measuring whether that asset is recoverable.
H. COMMON AND COMMON EQUIVALENT SHARES:
Primary earnings per common share are based on the weighted average number of common shares outstanding during the year and the assumed exercise of dilutive stock options and warrants, less the number of treasury shares assumed to be purchased from the proceeds using the average market prices of the Company's Class A Common Stock.
The weighted average number of common shares outstanding for the fiscal years ended December 31, 1993, 1994, and 1995 were approximately 7.025 million shares, 7.068 million shares and 7.789 million shares, respectively.
Primary earnings per share were computed by adjusting net income (loss) for dividends and accretion applicable to Series A Preferred Stock, as follows (dollars in thousands):
Fully diluted earnings per share are not presented for the year ended December 31, 1995, because the effect of the assumed conversion of the Series A Preferred Stock shares, which were authorized and issued during 1995, would be anti-dilutive.
All references to common and common equivalent shares have been retroactively restated to reflect a February 4, 1993 three-for-two stock dividend.
I. FOREIGN CURRENCY TRANSLATION:
Assets and liabilities of ACC TelEnterprises Ltd. and ACC Long Distance UK Ltd., operating in Canada and the United Kingdom, respectively, are translated into U.S. dollars using the exchange rates in effect at the balance sheet date. Results of operations are translated using the average exchange rates prevailing throughout the period. The effects of exchange rate fluctuations on translating foreign currency assets and liabilities into U.S. dollars are included as part of the cumulative translation adjustment component of shareholders' equity, while gains and losses resulting from foreign currency transactions are included in net income. In 1993, the Company recognized a foreign exchange loss of approximately $0.8 million due to the repayment of intercompany debt from its Canadian subsidiary. This debt had previously been considered of a long-term investment nature and gains and losses had been included in cumulative translation adjustment on the Company's balance sheet.
J. INCOME TAXES:
The Company adopted Statement of Financial Accounting Standards (SFAS) No. 109, ''Accounting for Income Taxes'' in 1993. Deferred income taxes reflect the future tax consequences of differences between the tax bases of assets and liabilities and their financial reporting amounts at each year-end. The cumulative effect of this change was not material to the financial statements of the Company.
K. CASH EQUIVALENTS AND RESTRICTED CASH:
The Company considers investments with a maturity of less than three months to be cash equivalents.
In connection with an agreement described in Note 8, the Company had placed approximately $0.6 million in an escrow account. During 1994 and 1995, approximately $0.2 million and $0.4 million, respectively, was paid to an officer of the Company in accordance with the agreement. The $0.4 million was reflected as ''restricted cash'' on the balance sheet at December 31, 1994.
L. DERIVATIVE FINANCIAL INSTRUMENTS:
The Company uses derivative financial instruments to reduce its exposure from market risks from changes in foreign exchange rates and interest rates. The Company does not hold or issue financial instruments for speculative trading purposes. The derivative instruments used are currency forward contracts and interest rate swap agreements. These derivatives are non-leveraged and involve little complexity.
The Company monitors and controls its risk in the derivative transactions referred to above by periodically assessing the cost of replacing, at market rates, those contracts in the event of default by the counterparty. The Company believes such risk to be remote. In addition, before entering into derivative contracts, and periodically during the life of the contracts, the Company reviews the counterparty's financial condition.
The Company enters into contracts to buy and sell foreign currencies in the future in order to protect the U.S. dollar value of certain currency positions and future foreign currency transactions. The gains and losses on these contracts are included in income in the period in which the exchange rates change. The discounts and premiums on the forward contracts are amortized over the life of the contracts.
At December 31, 1995, the Company had foreign currency contracts outstanding to sell forward the equivalent of Cdn. $37.9 million and 5.3 million pounds sterling and to buy forward the U.S. dollar equivalent of Cdn. $10.0 million and 2.7 million pounds sterling. These contracts mature throughout 1996.
At December 31, 1994, the Company had foreign currency contracts outstanding to sell forward the equivalent of Cdn. $19.0 million and 7.9 million pounds sterling and to buy forward the U.S. dollar equivalent of 2.4 million pounds sterling.
The aggregate fair value, based on published market exchange rates, of foreign currency contracts at December 31, 1994 and 1995, was $22.7 million and $24.5 million, respectively.
The Company uses interest rate swaps to effectively convert variable rate obligations to a fixed rate basis. The differentials to be received or paid under these agreements is recognized as an adjustment to interest expense related to the debt. Gains and losses on terminations of interest rate swaps are recognized when terminated in conjunction with the retirement of the associated debt. The fair value of interest rate swap agreements is estimated based on quotes from the market makers of these instruments and represents the estimated amounts that the Company would expect to receive or pay to terminate these agreements. The Company's exposure related to these interest rate swap agreements is limited to fluctuations in the interest rate. At December 31, 1995, the estimated fair value of these interest rate swaps was not material (see Note 3).
M. USE OF ESTIMATES:
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
N. RECLASSIFICATIONS:
Certain reclassifications have been made to previously reported balances for 1994 and 1993 to conform to the 1995 presentation.
2. OPERATING INFORMATION
ACC is a switch-based provider of telecommunications services in the United States, Canada and the United Kingdom. The Company primarily offers long distance telecommunications services to a diversified customer base of businesses, residential customers, and educational institutions. ACC has begun to provide local telephone service as a switch-based local exchange reseller in upstate New York and as a reseller of local exchange services in Ontario, Canada. ACC primarily targets business customers with approximately $500 to $15,000 of monthly long distance usage, selected residential customers and colleges and universities. For the year ended December 31, 1995, long distance revenues account for approximately 93% of total Company revenues, while local exchange revenues and data-line sales are 2% and 3%, respectively, of total Company revenues. Geographic area information is included in Note 9.
ACC operates an advanced telecommunications network consisting of seven long distance international and domestic switches located in the United States, Canada and the United Kingdom; a local exchange switch in the United States; leased transmission lines; and network management systems designed to optimize traffic routing.
At December 31, 1995, approximately $14.8 million of the Company's telecommunications equipment was located on 50 university, college, and preparatory school campuses in the Northeastern United States and in the United Kingdom. Each of these institutions has signed agreements, with terms ranging from three to eleven years, for the provision of a variety of services by the Company.
In the United States, the Federal Communications Commission (''FCC'') and relevant state Public Service Commissions (''PSCs'') have the authority to regulate interstate and intrastate rates, respectively, ownership of transmission facilities, and the terms and conditions under which the Company's services are provided. In Canada, services provided by ACC TelEnterprises Ltd. are subject to or affected by certain regulations of the Canadian Radio-Television and Telecommunications Commission (the ''CRTC''). The telecommunications services provided by ACC Long Distance U.K. Ltd. are subject to and affected by regulations introduced by The Office of Telecommunications, the U.K. telecommunications regulatory authority (''Oftel'').
In addition to regulation, the Company is subject to various risks in connection with the operation of its business. These risks include, among others, dependence on transmission facilities-based carriers and suppliers, price competition and competition from larger industry participants.
Concentrations with respect to trade receivables are limited, except with respect to resellers, due to the large number of customers comprising the Company's customer base and their dispersion across many different industries and geographic regions. At December 31, 1995, approximately 14% of the Company's billed accounts receivable balance was due from resellers.
The Company has contracted with a vendor to purchase license rights to certain software used in its operations. The Company believes that it is currently the only customer of the vendor and, as a result, the vendor is financially dependent on the Company. Any future modifications or enhancements to such software are dependent on the continued viability of the vendor.
A. DISCONTINUED OPERATIONS:
In 1993, the Company recorded a gain of $11.5 million, or $1.64 per share, net of a provision for income taxes of $8.4 million, related to the sale of the operating assets and liabilities of its cellular subsidiary, Danbury Cellular Telephone Co. The proceeds of the sale were approximately $43.0 million, of which $41.0 million was received in October, 1993 with the remaining $2.0 million received in October, 1994. Revenue related to this business segment for the nine months ended September 30, 1993 was $3.9 million. The results of the cellular business segment have been reported separately as discontinued operations in the consolidated statements of operations.
B. ASSET WRITE-DOWN:
In 1993, the Company recorded a non-cash pretax charge of $12.8 million related to write-downs of certain assets of the Company's U.S. and Canadian operations.
The U.S. write-down of intangibles amounted to approximately $1.2 million. The intangibles written off resulted from the acquisition of a number of businesses since 1985. Changes in the Company's operations since those companies were acquired, as well as an evaluation of the future undiscounted cash flow from those acquisitions, led the Company to the conclusion that the purchased intangibles no longer had value.
The write-down of fixed assets in the U.S. totaled approximately $5.1 million which represented the excess of net book value over estimated recoverable value for certain assets. These assets were written down due to technological changes which made it uneconomical for the Company to continue to use these assets in the production of revenue. Included in this amount was approximately $3.0 million of equipment related to the Company's 180 mile microwave network in New York State.
The Canadian write-down included approximately $2.8 million for acquired customer base and accounts receivable and $3.8 million for autodialing equipment. The write-down of the customer base and accounts receivable was due to the future undiscounted cash flow from those acquisitions being significantly less than originally anticipated.
The write-down of autodialing equipment reflected the excess of net book value over estimated recoverable value for those assets as a direct effect of the decision of the Canadian Radio-Television and Telecommunications Commission on July 23, 1993, which resulted in the implementation, starting in July, 1994, of equal access in Canada. These assets were fully depreciated at December 31, 1994.
C. EQUAL ACCESS COSTS:
During 1994, the Company initiated the process of converting its network to equal access for its Canadian customers. Costs associated with this process were approximately $2.2 million and include maintaining duplicate network facilities during transition, recontacting customers, and the administrative expenses associated with accumulating the data necessary to convert the Company's customer base to equal access.
3. DEBT, LINES OF CREDIT, AND FINANCING ARRANGEMENTS
A. DEBT:
The Company had the following debt outstanding as of December 31, 1995 and 1994 (dollars in thousands):
Based on borrowing rates currently available to the Company for loans and lease agreements with similar terms and average maturities, the fair value of its debt approximates its recorded value.
B. SENIOR CREDIT FACILITY AND LINES OF CREDIT:
On July 21, 1995, the Company entered into an agreement for a $35.0 million five year senior revolving credit facility with two financial institutions. Borrowings are limited individually to $5.0 million for ACC Long Distance UK Ltd. and $2.0 million for ACC National Telecom Corp., with total borrowings for the Company limited to $35.0 million. Initial borrowings under the agreement were used to pay down and terminate the Company's previously existing lines of credit and to pay fees related to the transaction. Subsequent borrowings have been, and will be, used to finance capital expenditures and to provide working capital. Fees associated with obtaining the financing are being amortized over the term of the agreement.
In conjunction with the closing, the Company issued to a financial advisor warrants to purchase 30,000 shares of the Company's Class A Common Stock at an exercise price of $16.00 per share. The warrants expire on January 21, 1999.
The agreement limits the amount that may be borrowed against this facility based on the Company's operating cash flow. The agreement also contains certain covenants including restrictions on the payment of dividends, maintenance of a maximum leverage ratio, minimum debt service coverage ratio, maximum fixed charge coverage ratio and minimum net worth, all as defined under the agreement, and subjective covenants. Regarding a certain subjective covenant related to transactions with affiliates (see Note 10), a waiver was obtained covering such transactions through December 31, 1995. At December 31, 1995, the Company had available $8.7 million under this facility. The total available facility will be reduced in quarterly increments of $2.450 million from July 1, 1997 to October 1, 1998, $2.905 million from January 1, 1999 to April 1, 2000 and by $2.870 million on maturity at July 1, 2000. Borrowings under the facility are secured by certain of the Company's assets and will bear interest at either the LIBOR rate or the base rate (base rate being the greater of the prime interest rate or the federal funds rate plus 1/2 %), with additional percentage points added based on a ratio of debt to operating cash flow, as defined in the facility agreement. The weighted average interest rate for borrowings during 1995 was 8.4%.
Under the agreement, the Company is obligated to pay the financial institutions an aggregate contingent interest payment based on the minimum of $750,000 or the appreciation in value of 140,000 shares of the Company's Class A Common Stock over the 18 month period ending January 21, 1997, but not to exceed $2.1 million. The contingent interest is due upon the earlier of the occurrence of a triggering event, as defined, or 18 months after the closing date.
In connection with the agreement, the Company must enter into hedging agreements with respect to interest rate exposure. The agreements have certain conditions regarding the interest rates, are subject to minimum aggregate balances of $10.0 million and must have durations of at least two years. The Company entered into three interest rate swap agreements in 1995 to convert the variable interest rate charged on $11.5 million of the outstanding credit facility to a fixed rate. Under these agreements, the Company is required to pay a fixed rate of interest on a notional principal balance. In return, the Company receives a payment of an amount equal to the variable rate calculated as of the beginning of the month. The interest rate swap agreements in effect as of December 31, 1995, are as follows:
Variable FIXED NOTIONAL BALANCE Rate RATE
$2,000,000 5.938% 5.98% $7,500,000 5.938% 6.25% $2,000,000 5.938% 6.02%
These agreements expire at various times through November, 1998.
At December 31, 1995, the Company has issued letters of credit totaling $1.4 million which reduce the available balance of the credit facility. The letters of credit guarantee performance to third parties. Management does not expect any material losses to result from these off-balance sheet instruments because the Company will meet its obligations to the third parties, and therefore, management is of the opinion that the fair value of these instruments is zero.
As of December 31, 1994, the Company had available up to $30.0 million under two separate bank-provided line of credit agreements. During 1995, the Company obtained a commitment letter to extend its then existing lines of credit for a period greater than twelve months. In accordance with SFAS No. 6, ''Classification of Short- Term Obligations Expected to be Refinanced,'' the outstanding lines of credit borrowings at December 31, 1994 were classified as long-term debt.
Each agreement was an unsecured working capital line for up to $15.0 million at the respective bank's prime rate. Outstanding principal under each line of credit was due on demand. At December 31, 1994, the Company had available approximately $3.1 million under one line of credit. The weighted average interest rate for borrowings on this line during 1994 and 1995 was 7.4% and 8.9% respectively. At December 31, 1994, the Company had available $66,000 under the second line of credit. The weighted average interest rate for borrowings on this line during 1994 and 1995 was 7.8% and 8.8%, respectively.
4. INCOME TAXES
Effective January 1, 1993, the Company changed its method of accounting for income taxes from the deferred method to the liability method required by SFAS No. 109, ''Accounting for Income Taxes.'' The cumulative effect of adopting this Statement as of January 1, 1993 was immaterial to net income.
The following is a summary of the U.S. and non-U.S. income (loss) from continuing operations before provision for (benefit from) income taxes and minority interest, the components of the provision for (benefit from) income taxes and deferred income taxes, and a reconciliation of the U.S. statutory income tax rate to the effective income tax rate.
Income (loss) from continuing operations before provision for (benefit from) income taxes and minority interest (dollars in thousands):
Provision for (benefit from) income taxes (dollars in thousands):
Provision for (benefit from) deferred income taxes (dollars in thousands):
Reconciliation of U.S. statutory income tax rate to effective income tax rate:
Deferred income tax assets and liabilities reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. At December 31, 1995, the Company had unused tax benefits of approximately $9.8 million related to non-U.S. net operating loss carryforwards totaling $25.3 million for income tax purposes, of which $14.4 million have an unlimited life, $2.6 million expire in 2000, $7.7 million expire in 2001, and $0.6 million expire in 2002. In addition, the Company had $1.1 million of deferred tax assets related to non-U.S. temporary differences. The valuation allowance was increased by $3.5 million to approximately $10.9 million to offset the related non- U.S. deferred tax assets due to the uncertainty of realizing the benefit of the non-U.S. loss carryforwards.
The following is a summary of the significant components of the Company's deferred tax assets and liabilities as of December 31, (dollars in thousands):
5. REDEEMABLE PREFERRED STOCK
On May 22, 1995, the Company completed a $10.0 million private placement of 12% subordinated convertible debt to a group of investors. The notes were converted into 10,000 shares of cumulative, convertible Series A Preferred Stock on September 1, 1995. The Series A Preferred Stock has a liquidation value of $1,000 per share, and accrues cumulative dividends, compounded on the accumulated and unpaid balance, as defined, at a rate of 12% annually. The dividends shall accrue whether or not the dividends have been declared and whether or not there are profits, surplus or other funds of the Company legally available for the payment of dividends. The dividends are payable upon redemption unless the Series A Preferred Stock is converted into Class A Common Stock at an initial conversion price of $16.00 per share, or 625,000 shares, subject to certain adjustments and conditions. The conversion price can fluctuate if the Company, among other actions, grants or sells options at prices less than the conversion price of the Series A Preferred Stock, or issues or sells convertible securities at a price per share less than the conversion price of the Series A Preferred Stock.
On the seventh anniversary of the private placement, all of the outstanding shares of Series A Preferred Stock shall be redeemed in cash or in a combination of cash and Class A Common Stock. Redemption may be made at the price per share equal to the greater of (I) the liquidation value ($1,000 per share) plus all accrued and unpaid dividends; or (ii) the fair market value of the underlying Class A Common Stock into which the Series A Preferred Stock is convertible. Optional redemptions of all or a portion of shares, as defined, of the then outstanding shares are permitted at any time.
All of the issued and outstanding Series A Preferred Stock will be automatically converted into Class A Common Stock if, after the second anniversary of the closing: (I) the daily trading volume of the Class A Common Stock exceeds 5% of the number of shares of Class A Common Stock issuable upon conversion of the Series A Preferred Stock for 45 consecutive trading days; (ii) the holders of the Series A Preferred Stock are not subject to any underwriters' lockup agreement restricting transferability of the shares of Class A Common Stock issuable upon conversion of such Series A Preferred Stock; and (iii) the average closing price of the Class A Common Stock for 15 consecutive trading days, through July 2002, equals or exceeds the price, as defined, ranging from $32.00 to $57.33 per share.
Noncompliance with the terms of the Series A Preferred Stock and the agreement under which the Series A Preferred Stock was issued, can result depending on the cause of the default in an increase of the dividend rate to 15 percent, a one-third reduction in the conversion price which existed prior to the event of default, or immediate redemption at the liquidation value plus accrued and unpaid dividends.
Concurrent with the private placement, warrants to purchase 100,000 shares of the Company's Class A Common Stock were issued at an initial exercise price of $16.00 per share. These warrants expire in July 2002. In addition, the Company issued warrants to purchase Class A Common Stock that will become exercisable upon one or more optional repayments of the Series A Preferred Stock at an exercise price of $16.00 per share, subject to adjustments, as defined, and will permit each holder to acquire initially the same number of shares of Class A Common Stock into which the Series A Preferred Stock is convertible as of the relevant repayment date. These warrants expire in July 2002.
The Series A Preferred Stock is senior to all classes and series of preferred stock and Class A Common Stock as to the payment of dividends and redemptions, and upon liquidation at liquidation value, senior to all other classes of the Company's capital stock. In certain circumstances, the holders of the Series A Preferred Stock will have preemptive rights to purchase, on an as- converted basis, a pro rata portion of certain Class A Common Stock issuances by the Company. The holders of the Series A Preferred Stock are entitled to elect one director to the Company's Board of Directors, so long as at least 33% of the Series A Preferred Stock is outstanding. The holders also have the right to approve certain transactions, as defined, including the payment of dividends and acquisition of shares of treasury stock.
At December 31, 1995, the Series A Preferred Stock is reflected on the accompanying balance sheet as redeemable preferred stock, and is shown inclusive of cumulative unpaid dividends, and net of unamortized issuance costs of approximately $1.1 million. The carrying value of the redeemable preferred stock will be accreted to the liquidation value, as defined, over the seven year term.
6. EQUITY
During 1995, the Company's shareholders approved an amendment to the Company's Certificate of Incorporation that authorized the creation of 2,000,000 shares of Series A Preferred Stock, par value $1.00 per share, authorized the creation of 25,000,000 shares of Class B non-voting Common Stock, par value $.015 per share, and redesignated the 50,000,000 shares of Common Stock, par value $.015 per share, that were previously authorized for issuance as 50,000,000 shares of Class A Common Stock.
A. PRIVATE PLACEMENT:
During 1995, the Company made an offshore sale of 825,000 shares of its Class A Common Stock at an average price of $14.53 per share. The sale raised net proceeds of $11.1 million, after deduction of fees and expenses of $0.9 million. In conjunction with this transaction, warrants to purchase 82,500 shares of Class A Common Stock at an exercise price of $14.40 per share were issued. These warrants were exercised prior to December 31, 1995.
B. EMPLOYEE LONG TERM INCENTIVE PLAN:
In October 1994, the Company's shareholders approved an amendment to the Employee Long Term Incentive Plan whereby options to purchase an aggregate of 2,000,000 shares of Class A Common Stock may be granted to officers and key employees of the Company. In July 1995, shareholders of the Company approved an additional 500,000 shares of Class A Common Stock to be reserved for issuance under this plan, and authorized the issuance of stock incentive rights ("SIRs") thereunder. The exercise price of the stock options must not be less than the market value per share at the date of grant, and no options shall be exercisable after ten years and one day from the date of grant. Options generally become exercisable on a pro-rata basis over a four-year period beginning on the date of grant and 25% on each of the three anniversary dates thereafter. SIRs represent the right to receive shares of the Company's Class A Common Stock without any cash payment to the Company, conditioned only on continued employment with the Company through a specified incentive period of at least three years. At December 31, 1995, no SIRs had been awarded under the plan.
Changes in the status of the plan during 1995, 1994, and 1993 are summarized as follows:
The Company is required to adopt SFAS No. 123, ''Accounting for Stock-Based Compensation'' in 1996. This Statement encourages entities to adopt a fair value based method of accounting for employee stock option plans (whereby compensation cost is measured at the grant date based on the value of the award and is recognized over the employee service period) rather than the current intrinsic value based method of accounting (whereby compensation cost is measured at the grant date as the difference between market value and the price for the employee to acquire the stock). If the Company elects to continue using the intrinsic value method of accounting, pro forma disclosures of net income and earnings per share, as if the fair value based method of accounting had been applied, will need to be disclosed. Management has not decided if the Company will adopt the fair value based method of accounting for their stock option plans. The Company believes that adopting the fair value basis of accounting could have a material impact on the financial statements and such impact is dependent upon future stock option activity.
C. EMPLOYEE STOCK PURCHASE PLAN:
In October 1994, the Company's shareholders approved an employee stock purchase plan which allows eligible employees to purchase shares of the Company's Class A Common Stock at 85% of market value on the date on which the annual offering period begins, or the last business day of each calendar quarter in which shares are purchased during the offering period, whichever is lower. Class A Common Stock reserved for future employee purchases aggregated 463,684 shares at December 31, 1995. There were 12,754 shares issued at an average price of $11.89 per share during the year ended December 31, 1994 and 23,562 shares issued at an average price of $12.56 per share during the year ended December 31, 1995. There have been no charges to income in connection with this plan other than incidental expenses related to the issuance of shares.
7. TREASURY STOCK
In January 1994, an officer of the Company exercised stock options to acquire 99,000 shares of the Company's Class A Common Stock at $3.30 per share by delivering to the Company 16,542 common shares at the then current market price of $19.75 per share.
The average cost of all treasury stock currently held by the Company is $2.22 per share.
8. COMMITMENTS AND CONTINGENCIES
A. Operating Leases:
The Company leases office space and other items under various agreements expiring through 2004. At December 31, 1995, the minimum aggregate payments under non-cancelable operating leases are summarized as follows (dollars in thousands): YEAR Amount
1996 $ 3,804 1997 3,734 1998 3,314 1999 4,458 2000 1,924 Thereafter 7,134 $24,368
Rent expense for the years ending December 31, 1995, 1994 and 1993 was approximately $1,965,000, $1,640,000, and $1,369,000, respectively.
B. EMPLOYMENT AND OTHER AGREEMENTS:
In October 1995, the Company's former Chief Executive Officer resigned his position, but remains an employee and Chairman of the Company's Board of Directors. A new Chief Executive Officer was hired. In conjunction with the management changes, the Company entered into agreements with both executives. The contract with the Chief Executive Officer has a two year term and provides for continuation of salary and benefits for the term of the agreement, in the event of a change in control of the Company. At December 31, 1995, the Company's maximum potential liability under this agreement was approximately $660,000. The contract with the Chairman of the Board provides for an annual base salary, including an annual bonus and other benefits, and also for a payment of $1.0 million, payable over a three year term, in the event that he resigns or is terminated without cause. Payments under this agreement are accelerated and are due in full within 30 days following a change in control of the Company. In consideration for a non- compete agreement, the Chairman of the Board received a payment of $750,000, which was expensed in 1995.
The Company has entered into employee continuation incentive agreements with certain other key management personnel. These agreements provide for continued compensation and continued vesting of options previously granted under the Company's Employee Long Term Incentive Plan for a period of up to one year in the event of termination without cause or in the event of termination after a change in control of the Company. At December 31, 1995, the Company's maximum potential liability under these agreements totaled approximately $2.5 million.
In connection with the sale of cellular assets, the Company entered into an agreement with an officer. The agreement called for a fee of approximately $0.6 million to be paid as a result of the closing of the sale of the Company's cellular assets. This amount was placed in an escrow account at the time of the sale. The agreement requires, among other things, that the officer remain an employee of the Company through July 1, 1996. During 1994, the officer had an outstanding loan from the Company in the amount of $0.2 million. Subsequent to December 31, 1994, the agreement was amended to accelerate the vesting provisions and funds from the escrow account were used to repay the loan.
C. PURCHASE COMMITMENT:
In 1993, ACC Long Distance Ltd., a subsidiary of ACC TelEnterprises Ltd., entered into an agreement with one of its vendors to lease long distance facilities totaling a minimum of Cdn. $1.0 million per month for eight years. The Company currently leases more than Cdn. $1.0 million per month of such facilities from this vendor. This commitment allows the Company to receive up to a 60 percent discount on certain monthly charges from this vendor.
D. DEFINED CONTRIBUTION PLANS:
The Company provides a defined contribution 401(k) plan to substantially all U.S. employees. Amounts contributed to this plan by the Company were approximately $137,000, $167,000, and $183,000 in 1993, 1994 and 1995, respectively. The Company's Canadian subsidiary provides a registered retirement savings plan to substantially all Canadian employees. Amounts contributed to this plan by the Company were Cdn. $28,000, Cdn. $62,000 and Cdn. $106,000 in 1993, 1994 and 1995, respectively.
E. ANNUAL INCENTIVE PLAN:
During 1995, the Company's Board of Directors authorized incentive bonuses based upon the Company's sales, gross margin, operating expenses and operating income. Prior to 1995, incentive bonuses were discretionary as determined by the Company's management and approved by the Board of Directors. The amounts included in operations for these incentive bonuses were approximately $619,000, $633,000 and $1.4 million for the years ended December 31, 1993, 1994 and 1995, respectively.
F. LEGAL MATTERS:
The Company is subject to litigation from time to time in the ordinary course of business. Although the amount of any liability with respect to such litigation cannot be determined, in the opinion of management, such liability as of December 31, 1995 will not have a material adverse effect on the Company's financial condition or results of operations.
9. GEOGRAPHIC AREA INFORMATION (DOLLARS IN THOUSANDS)
Intercompany revenue is recognized when calls are originated in one country and terminated in another country over the Company's leased network. This revenue is recognized at rates similar to those of unaffiliated companies. Income from continuing operations before income taxes of the Canadian and United Kingdom operations includes corporate charges for general corporate expenses and interest.
Corporate general and administrative expenses are allocated to subsidiaries based on actual time dedicated to each subsidiary by members of corporate management and staff.
10. RELATED PARTY TRANSACTIONS
In February 1994, the Company's Board of Directors approved a plan to move the Company's headquarters to a new facility in Rochester, New York. The new location is in a building owned by a partnership in which the Company's Chairman of the Board has a fifty percent ownership interest. A Special Committee of the Company's Board of Directors reviewed the lease to ensure that the terms and conditions were commercially reasonable and fair to the Company prior to approval of the plan. Minimum monthly lease payments for this space range from $44,000 to $60,000 over the ten year term of the lease, which began on May 1, 1994. The Company also pays a pro-rata share of maintenance costs. Total rent and maintenance payments under this lease were approximately $0.2 million and $0.6 million during 1994 and 1995, respectively.
During 1994 and early 1995, the Company initiated efforts to obtain new telecommunications software programs from a software development company. The Company's Chairman of the Board and former Chief Executive Officer was a controlling shareholder of the software development company during such period. In May 1995, anticipating material agreements with the software development company, all of the common shares owned by the Company's Chairman of the Board were placed in escrow under the direction of a Special Committee of the Company's Board of Directors. The Special Committee, its outside consultants and the Company's management then proceeded to review and evaluate the software technology and the terms and conditions of the proposed transactions.
Subsequent to December 31, 1995, the Special Committee approved a software license agreement between the Company and a newly formed company (the purchaser of the software development company's intellectual property and other assets and an affiliate of such company). Immediately prior to entering into the agreement, the shares of the software development company held in escrow were returned to such company and the related party nature of the Company's relationship with the software development company was thereby extinguished. Total amounts accrued at December 31, 1994 and 1995 relating to this vendor were $0 and $44,000, respectively. For an aggregate consideration of $1.8 million, the Company in return will receive a perpetual right to use the newly developed telecommunications software programs. During 1995, the Company paid the software development company $1.2 million, of which $772,000, relating to the purchase of certain hardware and acquisition of certain software licenses, was capitalized and recorded on the balance sheet as a component of property, plant and equipment and $500,000 relating to software development was expensed. During 1994, the Company paid the software development company $132,000, all of which related to software development, which was expensed.
11. SUBSEQUENT EVENTS
A. Telecommunications Legislation Revisions:
Legislation that substantially revises the U.S. Communications Act of 1934 (the ''U.S. Communications Act'') was recently enacted by Congress and was signed into law on February 8, 1996. The legislation provides specific guidelines under which the regional operating companies (''RBOCs'') can provide long distance services, which will permit the RBOCs to compete with the Company in the provision of domestic and international long distance services. Further, the legislation, among other things, opens local service markets to competition from any entity (including long distance carriers, such as AT&T, cable television companies and utilities).
Because the legislation opens the Company's U.S. markets to additional competition, particularly from the RBOCs, the Company's ability to compete is likely to be adversely affected. Moreover, as a result of and to implement the legislation, certain federal and other governmental regulations will be amended or modified, and any such amendment or modification could have a material adverse effect on the Company's business, results of operations and financial condition.
B. NON-EMPLOYEE DIRECTORS' STOCK OPTION PLAN:
On January 19, 1996, subject to shareholder approval, the Company's Board of Directors adopted a Non-Employee Directors' Stock Option Plan (the Directors' Stock Option Plan). The Directors' Stock Option Plan provides for grants of options to purchase 5,000 shares of Class A Common Stock at an exercise price of 100% of the fair market value of the stock on the date of grant, which options vest at the first anniversary of the date of grant. The maximum number of shares with respect to which options may be granted under the Directors' Stock Option Plan is 250,000 shares, subject to adjustment for stock splits, stock dividends and the like. Vested options to purchase 20,000 shares of Class A Common Stock were granted on January 19, 1996, pursuant to this plan, subject to shareholder approval of the plan at the Company's 1996 Annual Meeting.
Each option shall be exercisable for ten years and one day after its date of grant. Any vested option is exercisable during the holder's term as a director (in accordance with the option's terms) and remains exercisable for one year following the date of termination as a director (unless the director is removed for cause). Exercise of the options would involve payment in cash, securities, or a combination of cash and securities.
ITEM 9
ITEM 9 . DISAGREEMENTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.
Not applicable.
PART III
ITEM 10.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The following sets forth information concerning the Directors and executive officers of the Company and its principal operating subsidiaries as of March 1, 1996:
NAME AGE POSITION(S)
Richard T. Aab 46 Chairman of the Board of Directors David K. Laniak 60 Chief Executive Officer, Director Arunas A. Chesonis 33 President and Chief Operating Officer, Director Michael R. Daley 34 Executive Vice President, Chief Financial Officer and Treasurer Steve M. Dubnik 33 Chairman of the Board of Directors, President and Chief Executive Officer, ACC TelEnterprises Ltd. Michael L. LaFrance 36 President, ACC Long Distance Corp. Christopher Bantoft 48 Managing Director, ACC Long Distance UK Ltd. John J. Zimmer 37 Vice President--Finance George H. Murray 49 Vice President--Human Resources and Corporate Communications Sharon L. Barnes 29 Controller Hugh F. Bennett 39 Director Willard Z. Estey 76 Director Daniel D. Tessoni 48 Director Robert M. Van Degna 51 Director
Richard T. Aab is a co-founder of the Company who has served as Chairman of the Board of Directors since March 1983 and as a Director since October 1982. Mr. Aab also served as Chief Executive Officer from August 1983 through October 1995, and as Chairman of the Board of Directors of ACC TelEnterprises Ltd. from April 1993 through February 1994.
David K. Laniak was elected the Company's Chief Executive Officer in October 1995. Mr. Laniak has been a Director of the Company since February 1989. Prior to joining the Company, Mr. Laniak was Executive Vice President and Chief Operating Officer of Rochester Gas and Electric Corporation, Rochester, New York, where he worked in a variety of positions for more than 30 years. Mr. Laniak also has served since October 1995 and from May 1993 through July 1994 served as a Director of ACC TelEnterprises Ltd.
Arunas A. Chesonis was elected President and Chief Operating Officer of the Company in April 1994. He previously served as President of the Company and of its North American operations since April 1994, and as President of ACC Long Distance Corp. from January 1989 through April 1994. From August 1990 through March 1991, he also served as President of ACC TelEnterprises Ltd., and from May 1987 through January 1989, Mr. Chesonis served as Senior Vice President of Operations for ACC Long Distance Corp. Mr. Chesonis was elected a Director of the Company in October 1994.
Michael R. Daley was elected the Company's Executive Vice President and Chief Financial Officer in February 1994, and has served as Treasurer of the Company since March 1991. He previously served as the Company's Vice President-Finance from August 1990 through February 1994, as Treasurer and Controller from August 1990 through March 1991, as Controller from January 1989 through August 1990, and various other positions with the Company from July 1985 through January 1989. Mr. Daley has served as a Director of ACC TelEnterprises Ltd. since October 1994.
Steve M. Dubnik was elected the Chairman of the Board of Directors, President and Chief Executive Officer of ACC TelEnterprises Ltd. in July 1994. Previously, he served from 1992 through June 1994 as President, Mid-Atlantic Region, of RCI Long Distance. For more than five years prior thereto, he served in progressively senior positions with Rochester Telephone Corporation (now Frontier Corp.) including assignments in engineering, operations, information technology and sales.
Michael L. LaFrance was elected the President of ACC Long Distance Corp. in April 1994. From May 1992 through May 1994, he served as Executive Vice President and General Manager of Axcess USA Communications Corp., from June 1990 through May 1992, as Director of Regulatory Affairs and Administration of LDDS Communications, Inc. and from February 1987 through June 1990, as Vice President of Comtel- TMC Telecommunications. Since April 1994, Mr. LaFrance has served as the President of ACC National Telecom Corp., the Company's local service subsidiary.
Christopher Bantoft was elected Managing Director of ACC Long Distance UK Ltd. in February 1994. From 1986 through 1993, he served as Sales and Marketing Director, Deputy Managing Director, and most recently as Managing Director of Alcatel Business Systems Ltd., the U.K. affiliate of Alcatel, N.V.
John J. Zimmer, a certified public accountant, was elected the Company's Vice President-Finance in September 1994. He previously served as the Company's Controller from March 1991 through September 1994. Prior to March 1991, he served as a staff accountant and then as a manager of accounting with Arthur Andersen LLP.
George H. Murray was elected the Company's Vice President-Human Resources and Corporate Communications in August 1994. For more than five years prior to his joining the Company, he served in various senior management positions with First Federal Savings and Loan of Rochester, New York.
Sharon L. Barnes, a certified public accountant, was elected the Company's Controller in September 1994. Previously, she served as Accounting Manager from April 1993 through September 1994. Prior to joining the Company in 1993, she served for more than four years as a staff and senior accountant with Arthur Andersen LLP.
Hugh F. Bennett has been a Director of the Company since June 1988. Since March 1990, Mr. Bennett has been a Vice President, Director and Secretary-Treasurer of Gagan, Bennett & Co., Inc., an investment banking firm.
The Hon. Willard Z. Estey, C.C., Q.C., was elected a Director of the Company at its 1994 Annual Meeting. Mr. Estey is Counsel to the Toronto, Ontario law firm of McCarthy, Tetrault. After serving as Chief Justice of Ontario, Mr. Estey was a Justice of the Supreme Court of Canada from 1977 through 1988. From 1988 through 1990, Mr. Estey was Deputy Chairman of Central Capital Corporation, Toronto, Ontario. Since May 1993, Mr. Estey has also served as a Director of ACC TelEnterprises Ltd.
Daniel D. Tessoni has been a Director of the Company since May 1987. Mr. Tessoni is an Associate Professor of Accounting at the College of Business of the Rochester Institute of Technology, where he has taught since 1977. He holds a Ph.D. degree, is a certified public accountant and is Treasurer of several privately-held business concerns.
Robert M. Van Degna has been a Director of the Company since May 1995. Mr. Van Degna is Managing Partner of Fleet Equity Partners, an investment firm affiliated with Fleet Financial Group, Inc. and based in Providence, Rhode Island. Mr Van Degna joined Fleet Financial Group in 1971 and held a variety of lending and management positions until he organized Fleet Equity Partners in 1982 and became its general partner. Mr. Van Degna currently serves on the Board of Directors of Orion Network Systems, Inc. and Preferred Networks, Inc., as well as several privately-held companies. Mr. Van Degna was initially elected to the Company's Board of Directors pursuant to the terms of the investment in the Company by Fleet Venture Resources, Inc. and affiliated entities described under the Principal Shareholders Table in Item 12 below.
COMPLIANCE WITH SECTION 16 OF THE SECURITIES EXCHANGE ACT OF 1934
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's executive officers, Directors and other persons who own more than ten percent of the Company's securities (collectively, "reporting persons") to file reports of their ownership of and changes in ownership in their Company shareholdings with both the SEC and The Nasdaq Stock Market and to furnish the Company with copies of all such forms (known as Forms 3, 4 and 5) filed. Based solely on its review of the copies of such forms it received and on written representations received from certain reporting persons that they were not required to file a Form 5 report with respect to 1995, the Company believes that with respect to transactions occurring in 1995, all Form 3, 4 and 5 filing requirements applicable to its reporting persons were complied with.
ITEM 11.
ITEM 11. EXECUTIVE COMPENSATION.
The following table sets forth information concerning the compensation and benefits paid by the Company for all services rendered during 1995, 1994 and 1993 to five individuals: David K. Laniak, who is and was, at December 31, 1995, serving as the Company's Chief Executive Officer, and Richard T. Aab, Arunas A. Chesonis, Christopher Bantoft, and Steve M. Dubnik, who were, as of December 31, 1995, the other four most highly compensated executive officers of the Company whose 1995 salary and bonus exceeded $100,000 in amount (individually, a "Named Executive" and collectively, the "Named Executives"):
SUMMARY COMPENSATION TABLE
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NA Indicates Not Applicable, because the particular Named Executive was not an executive officer of the Company during the year indicated.
(1) The Company has a two-year Employment Agreement with Mr. Laniak that runs through October 1997, under the terms of which he will receive a base salary of $300,000 per year, plus a bonus determined under the Company's Annual Incentive Plan, plus other benefits given to the Company's other executives. This agreement also provides for payment of his then current compensation and benefits for the remainder of the term of the agreement and vesting of all outstanding stock options if, as a result of or within one year following a change in control of the Company, Mr. Laniak's employment is terminated without cause by the Company or the acquiror or Mr. Laniak voluntarily terminates his employment as a result of certain events, including a significant change in the nature or scope of his duties, relocation outside of the Rochester, New York area or a reduction in his compensation or benefits. The severance payment to Mr. Laniak is conditioned on his agreement not to compete with the Company during and for one year following termination of his employment and to maintain confidentiality of trade secrets.
(2) Under applicable SEC rules, the value of any perquisites or other personal benefits provided by the Company to any of the Named Executives need not be separately detailed and described if their aggregate value does not exceed the lesser of $50,000 or 10% of that executive's total salary and bonus for the year shown. For the year indicated, the value of such personal benefits, if any, provided by the Company to this Named Executive did not exceed such thresholds.
(3) In connection with his becoming the Company's new Chief Executive Officer, on October 5, 1995, Mr. Laniak was granted incentive stock options ("ISOs") to purchase 17,391 shares of the Company's Class A Common Stock at an exercise price of $17.25 per share, exercisable over a ten-year term, and non-qualified stock options ("NQSOs") to purchase 50,609 shares of Class A Common Stock also at an exercise price of $17.25 per share and exercisable over a term of ten years and one day, all under the Company's Employee Long Term Incentive Plan ("LTI Plan"). The NQSOs granted are subject to the additional vesting conditions that 50% of such options would vest at such time as the closing price for the Company's Class A Common Stock closed at or above $21.56 per share for 15 consecutive trading days (a 25% increase over their exercise price), with the additional 50% of such options to vest at such time as the closing price for the Company's Class A Common Stock closed at or above $25.88 per share for 15 consecutive trading days (a 50% increase over their exercise price).
(4) This amount represents additional group term life insurance premiums paid on Mr. Laniak's behalf during 1995.
(5) Effective October 6, 1995, Mr. Aab resigned his position as the Company's Chief Executive Officer. He remains its Chairman of the Board and an employee of the Company, however. In connection with this change, the Company entered into both a Non-Competition Agreement and a Salary Continuation and Deferred Compensation Agreement with Mr. Aab. Under the terms of Mr. Aab's Non-Competition Agreement, he will not compete against the Company for three years following any "event of termination" (as defined in this Agreement) as an employee of the Company and as its Chairman of the Board, for which he received a lump-sum payment of $750,000 in 1995. Under the terms of his Salary Continuation and Deferred Compensation Agreement, Mr. Aab will receive a salary of $200,000 per year, plus a bonus determined under the Company's Annual Incentive Plan, plus continuation of his current benefits for as long as he remains the Chairman of the Board and an employee of the Company. At such time as he ever resigns or is terminated as a Company employee and from serving as the Chairman of the Board, except in a circumstance involving a "termination for cause" as defined in this Agreement, he will receive a payment of $1,000,000, payable over a three year term following the date of such termination or resignation, with the payment of such amount accelerated and paid in full within 30 days following a change in control of the Company. Mr. Aab would also receive such payment if, as a condition precedent to, as a result of or within one year following a change in control of the Company, he were terminated for cause.
(6) On January 3, 1995, Mr. Aab was granted ISOs to purchase 24,644 shares of the Company's Class A Common Stock at an exercise price of $16.23 per share, exercisable over a five-year term, under the LTI Plan.
(7) Of this total, $750,000 represents the lump sum payment made to Mr. Aab under his Non- Competition Agreement discussed in note (5) above, $4,413 represents the Company's 1995 contribution to Mr. Aab's account under its 401(k) Deferred Compensation and Retirement Savings Plan ("401(k) Plan"), and $5,732 represents taxable group term and single policy life insurance premiums paid by the Company on Mr. Aab's behalf during 1995.
(8) The amounts shown represent the Company's contributions under its 401(k) in the amount of: $ 4,601 for 1994; and $4,497 for 1993; as well as taxable group term and single policy life insurance premiums paid on Mr. Aab's behalf in the amount of: $2,384 in 1994; and $4,808 in 1993.
(9) Of this total, $155,000 represents Mr. Aab's bonus paid in 1994 for services rendered in 1993, and $175,000 represents the one-time award he was paid in 1993 in connection with the sale of the Company's cellular operations. In early 1993, the Executive Compensation Committee of the Board of Directors determined that certain Company executives, including this Named Executive, were eligible to receive a special one-time award in 1993 contingent upon the execution of a definitive agreement to sell the cellular assets of the Company's Danbury Cellular Telephone Co. subsidiary. This award was paid in lieu of any bonus for services rendered during 1992.
(10) The Company has entered into Employment Continuation Incentive Agreements with Mr. Chesonis, certain other executive officers of the Company, and key Company personnel, which agreements provide that if such employee is ever terminated without cause or as the result of a change in control of the Company as defined in the agreement, then the employee shall be entitled to receive his/her then current salary and benefits and continued vesting of any options previously granted under the Company's Employee Long Term Incentive Plan for up to one year following such termination. In addition, should such employee be terminated without cause while he/she is disabled, or in the event the employee dies during the term of the agreement, any unexercised stock options that he/she may hold on the date of either such event shall automatically become fully exercisable for one year following such date, subject to the original term of the relevant option grant(s). These agreements also provide for each employee's agreement not to compete with the Company so long as he/she is receiving payments thereunder. These agreements are for an indefinite term and subject to termination twelve months following receipt of the Company's notice of its intent to terminate them.
(11) On January 3, 1995, Mr. Chesonis was granted ISOs to purchase 21,700 shares of the Company's Class A Common Stock at an exercise price of $14.75 per share, exercisable over a ten-year term, under the LTI Plan.
(12) The amounts shown represent the Company's contributions under its 401(k) Plan in the amount of: $4,410 for 1995; $4,806 for 1994; and $4,132 for 1993; as well as additional group term life insurance premiums paid on Mr. Chesonis's behalf in the amount of: $363 in 1995; $267 in 1994; and $151 in 1993.
(13) On February 8, 1994, Mr. Chesonis was granted ISOs to purchase 50,000 shares of the Company's Class A Common Stock at an exercise price of $19.25 per share, exercisable over a ten-year term, under the LTI Plan. This award was cancelled and regranted on August 11, 1994 at an option exercise price of $14.25 per share.
(14) On September 7, 1993, Mr. Chesonis was granted ISOs to purchase 30,000 shares of the Company's Class A Common Stock at an exercise price of $15.00 per share, exercisable over a ten-year term, under the LTI Plan.
(15) The Company has an Employment Agreement with Mr. Bantoft employing him as Managing Director of ACC Long Distance UK Ltd. under the terms of which he will receive a base salary of at least 85,000 per year, plus a bonus determined under the Company's Annual Incentive Plan, plus other benefits given to the Company's other executives. This agreement also provides for payment of his then current compensation and benefits for a period of one year if, as a result of or within one year following a change in control of the Company, Mr. Bantoft's employment is terminated without cause by the Company or the acquiror or Mr. Bantoft voluntarily terminates his employment as a result of certain events, including a significant change in the nature or scope of his duties or a reduction in his compensation or benefits. The agreement also requires Mr. Bantoft to maintain confidentiality of the Company's trade secrets during its term and indefinitely following termination of his employment.
(16) On January 3, 1995, Mr. Bantoft was granted ISOs to purchase 10,200 shares of the Company's Class A Common Stock at an exercise price of $14.75 per share, exercisable over a ten-year term, under the LTI Plan.
(17) This amount represents U.K. pension payments made on Mr. Bantoft's behalf during 1995.
(18) On January 4, 1994, Mr. Bantoft was granted ISOs to purchase 10,000 shares of the Company's Class A Common Stock at an exercise price of $18.75 per share, on August 11, 1994, he was granted ISOs to purchase 15,000 shares of the Company's Class A Common Stock at an exercise price of $14.25 per share, and on November 15, 1994, he was granted ISOs to purchase 25,000 shares of the Company's Class A Common Stock at an exercise price of $17.25 per share, each tranche exercisable over a ten-year term, under the LTI Plan.
(19) This amount represents U.K. pension payments made on Mr. Bantoft's behalf during 1994.
(20) The Company has an Employment Agreement with Mr. Dubnik under the terms of which he will receive a base salary of Cdn.$208,312 per year, plus a bonus determined under the Company's Annual Incentive Plan, plus other benefits given to the Company's other executives. The agreement also provides that if Mr. Dubnik is ever terminated without cause or as the result of a change in control of the Company as defined in the agreement, then he will be entitled to receive his/her then current salary and benefits for one year following such termination. The agreement also provides that Mr. Dubnik will not solicit Company customers during and for one year following the termination of his employment, that he will not compete with the Company so long as he is receiving payments thereunder, and that he will maintain the confidentiality of the Company's trade secrets during the term of the agreement and indefinitely following termination of his employment.
(21) On January 3, 1995, Mr. Dubnik was granted ISOs to purchase 11,200 shares of the Company's Class A Common Stock at an exercise price of $14.75 per share, exercisable over a ten-year term, under the LTI Plan.
(22) Of this total, $447 represents additional group term life insurance premiums paid on Mr. Dubnik's behalf, $3,556 represents the Company's 1995 contribution to his Canadian Registered Retirement Savings Plan account, and $30,000 represents moving expense reimbursements paid to Mr. Dubnik during 1995 in connection with his relocation from the Washington, D.C. metropolitan area to Toronto, Canada.
(23) On August 11, 1994, Mr. Dubnik was granted ISOs to purchase 50,000 shares of the Company's Class A Common Stock at an exercise price of $14.25 per share, exercisable over a ten-year term, under the LTI Plan.
(24) This amount represents moving expense reimbursements paid to Mr. Dubnik during 1994 in connection with his relocation from the Washington, D.C. metropolitan area to Toronto, Canada.
COMPENSATION PURSUANT TO PLANS
EMPLOYEE LONG TERM INCENTIVE PLAN. The Company has an Employee Long Term Incentive Plan (formerly known as the Employee Stock Option Plan) (the "LTI Plan" or "Plan"), which it instituted in February, 1982, to provide long- term incentive benefits to key Company employees as determined by the Executive Compensation Committee of the Board of Directors (the "Committee"). This Plan is administered by the Committee, whose duties include selecting the employees who will receive stock option grants and/or awards of stock incentive rights ("SIRs") thereunder, the number of SIRs to be awarded and their vesting schedule, and the numbers and exercise prices of the options granted to optionees. In making its selections and determinations, the Committee has substantial flexibility and makes its judgments based largely on the functions and responsibilities of the particular employee, the employee's past and potential contributions to the Company's profitability and growth, and the value of the employee's service to the Company. Options granted under this Plan are either intended to qualify as "incentive stock options" ("ISOs") within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended, or are non- qualified stock options ("NQSOs"). Options granted under this Plan represent rights to purchase shares of the Company's Class A Common Stock within a fixed period of time and at a cash price per share ("exercise price") specified by the Committee on the date of grant. The exercise price cannot be less than the fair market value of a share of Class A Common Stock on the date of award. Payment of the exercise price may be made in cash or, with the Committee's approval, with shares of the Company's Class A Common Stock already owned by the optionee and valued at their fair market value as of the exercise date. Options are exercisable during the period fixed by the Committee, except that no ISO may be exercised more than ten years from the date of grant, and no NQSO may be exercised more than ten years and one day from the date of the grant.
Beginning in July 1995, the Committee is also authorized, in its discretion, to award SIRs under the Plan. SIRs are rights to receive shares of the Company's Class A Common Stock without any cash payment to the Company, conditioned only on continued employment with the Company throughout a specified incentive period of at least three years. In general, the recipient must remain employed by the Company for the designated incentive period before receiving the shares subject to the SIR award; earlier termination of employment, except in the event of death, permanent disability or normal retirement, would result in the automatic cancellation of an SIR. Should an SIR holder die, become permanently disabled or retire during an SIR incentive period, he/she, or his/her estate, as the case may be, would receive a pro-rated number of the shares underlying the SIR award based upon the ratio that the number of months since the SIR had been granted bore to the designated incentive period, less any shares already issued in the case of an SIR with a staggered vesting schedule.
During the incentive period, should the Company declare any cash dividends on its Class A Common Stock, the holder of an SIR would be entitled to receive from the Company cash "dividend equivalent" payments equal to any such cash dividends that the holder would have received had he/she owned the shares of Class A Common Stock underlying his/her SIR. However, the holder of an SIR would not have any other rights with respect to the shares underlying an SIR award, E.G., the right to vote or pledge such shares, until such shares were actually issued to the holder.
An employee can be awarded both SIRs and stock options in any combinations that the Committee may determine. In such an event, an exercise of an option would not in any way affect or cancel any SIRs an employee may have received, nor would the earnout of shares under an SIR award in any way affect or cancel any options held by an employee.
The following table shows information concerning options granted under this Plan during 1995 to the five Named Executives:
OPTION GRANTS IN LAST FISCAL YEAR
_________________________________
(1) These calculations show the potential gain that would be realized if the options shown were not exercised until the end of their full five- or ten-year term, assuming the compound annual rate of appreciation of the exercise prices indicated (0%, 5%, and 10%) over the respective terms of the options shown, net of the exercise prices paid.
(2) These options were granted on October 5, 1995. Of this total, 17,391 are ISOs and 50,609 are NQSOs. The ISOs are for a term of ten years, one-third of which first exercisable on April 5, 1996, and an additional one-third of which become exercisable on the first and second anniversaries of the grant date. The NQSOs are for a term of ten years and one day, and are subject to the additional vesting conditions that 50% of such options will vest at such time as the closing price for the Company's Class A Common Stock is at or above $21.56 per share for 15 consecutive trading days (a 25% increase over their exercise price), with the additional 50% of such options to vest at such time as the closing price for the Company's Class A Common Stock is at or above $25.88 per share for 15 consecutive trading days (a 50% increase over their exercise price).
(3) These ISOs were granted on January 3, 1995, for a term of five years, 25% of which first became exercisable on July 4, 1995, and an additional 25% of which become exercisable on the first, second and third anniversaries of the grant date.
(4) These ISOs were granted on January 3, 1995, for a term of ten years, 25% of which first became exercisable on July 4, 1995, and an additional 25% of which become exercisable on the first, second and third anniversaries of the grant date.
The following table reflects information concerning option exercises under this Plan by the Named Executives during 1995, together with information concerning the number and value of all unexercised options held by each of the Named Executives at year end 1995 under this Plan:
AGGREGATED OPTION EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR-END OPTION VALUES
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(1) For each Named Executive, these values are calculated by subtracting the per share option exercise price for each block of options held on December 31, 1995 from the closing price of the Company's Class A Common Stock on that date ($23.06 on December 29, 1995), then multiplying that figure by the number of options in that block, then aggregating the resulting subtotals.
As of December 31, 1995, 483,108 shares of the Company's Class A Common Stock were available for grants under this Plan. As of that date, there were 1,070,919 options outstanding, with a weighted average exercise price of $14.04 per share. The expiration dates of these option grants range from May 22, 1999 through October 6, 2005. During 1995, no SIRs were awarded under the Plan.
401(K) DEFERRED COMPENSATION AND RETIREMENT SAVINGS PLAN. The Company has a 401(k) Deferred Compensation and Retirement Savings Plan in which employees with a minimum of six months continuous service are eligible to participate. Contributions to a participating employee's 401(k) account are made in accordance with the regulations set forth under Section 401 of the Internal Revenue Code of 1986, as amended. Under this Plan, the Company may make matching contributions to the account of a participating employee up to an annual maximum of 50% of the annual salary contributed in that year by that employee, up to a maximum of 3% of that employee's salary. The Company's contributions vest at the rate of 20% per year of credited service as defined in the plan and become fully vested after five years of credited service.
EMPLOYEE STOCK PURCHASE PLAN. The Company has an Employee Stock Purchase Plan ("Stock Purchase Plan"), in which all employees who work 20 or more hours per week are eligible to participate. Under this Plan, employees electing to participate can, through payroll deductions, purchase shares of the Company's Class A Common Stock at 85% of market value on the date on which the annual offering period under this Plan begins or on the last business day of each calendar quarter in which shares are automatically purchased for a participant during an offering period, whichever is lower. Participants cannot defer more than 15% of their base pay into this Plan, nor purchase more than $25,000 per year of the Company's Class A Common Stock through this Plan. As of December 31, 1995, participants had purchased a total of 36,316 shares through this Plan, at an average price during 1995 of $12.56 per share, leaving a total of 463,684 shares available for future purchases under the Plan.
ANNUAL INCENTIVE PLAN. The Company has an annual incentive plan, which it instituted in 1995, pursuant to which the annual cash bonuses paid to the Company's senior management and key personnel are determined. Under this plan, at the beginning of a fiscal year, the Executive Compensation Committee of the Board establishes performance targets based upon the Company's revenues, gross margin, operating expenses and operating income for that fiscal year. At the end of that year, the extent to which these performance targets were met for the year determines the bonuses, if any, to be paid for that year.
OTHER COMPENSATION PLANS. The Company provides additional group term life and supplemental disability insurance coverage to its officers. The additional group term life insurance provides additional life insurance protection to an officer in the amount of two and one-half times his/her current salary. The supplemental disability insurance provides additional disability insurance protection to an officer in an amount selected by the executive, not to exceed, when combined with the coverage provided by the Company's basic disability insurance provided to all of its employees, 70% of his/her current annual salary.
The Company also has a legal, medical and financial planning reimbursement plan for its senior executives pursuant to which it will reimburse each of them generally up to $4,000 per year (up to $12,000 per year for Mr. Aab) for legal, accounting, financial planning and uninsured medical expenses incurred by the executive.
COMPENSATION OF DIRECTORS
Directors who are not also employees of the Company are paid an annual retainer of $6,000, plus a fee of $500 for each Board meeting attended. Additionally, outside Directors who serve on committees of the Board receive $300 per committee meeting attended.
On January 19, 1996, subject to obtaining shareholder approval at their 1996 Annual Meeting, the Company's Board of Directors adopted a Non-Employee Directors' Stock Option Plan (the "Directors Stock Option Plan"), and Messrs. Bennett, Estey, Tessoni and Van Degna each received vested options to purchase 5,000 shares of Class A Common Stock at an exercise price of $23.00 per share pursuant to this Plan. Subject to obtaining shareholder approval at the 1996 Annual Meeting, this plan provides for annual grants of non-qualified stock options to purchase 5,000 shares of Class A Common Stock at an exercise price equal to 100% of the fair market value of the stock on the date of grant, which options vest at the first anniversary of the date of grant. The maximum number of shares with respect to which options may be granted under this Plan is 250,000, subject to adjustment for stock splits, stock dividends and the like.
ITEM 12.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
SECURITIES OWNED BY COMPANY MANAGEMENT
The following table sets forth, as of March 1, 1996, the number and percentage of outstanding shares of Class A Common Stock beneficially owned by each Director of the Company, by each of the four Named Executives (in addition to Mr. Laniak) named in the compensation tables that appear in Item 11 above and by all Directors and executive officers of the Company as a group. The Company believes that each individual in this group has sole investment and voting power with respect to his or her shares subject to community property laws where applicable and except as otherwise noted:
Name of Nominee for Director Shares Beneficially Owned OR EXECUTIVE OFFICER NUMBER PERCENTAGE
Richard T. Aab 927,554 (1) 11.5
Hugh F. Bennett 3,000 (2) * Arunas A. Chesonis 86,508 (3) 1.1 Willard Z. Estey -0- * David K. Laniak 62,406 (4) * Daniel D. Tessoni 22,500 (5) * Robert M. Van Degna 725,000 (6) 8.3 Christopher Bantoft 20,100 (7) * Steve M. Dubnik 20,100 (8) *
All Directors and Executive Officers as a Group (14 persons, including those named above) 1,955,917 (1) (2) 21.7 (3) (4) (5) (6) (7) (8) (9) __________________________________
* Indicates less than 1% of the Company's issued and outstanding shares.
(1) This number includes 139,500 shares that are owned by Melrich Associates, L.P., a family partnership of which Mr. Aab is a general partner and therefore shares investment and voting power with respect to such shares, and options to purchase 12,322 that are currently exercisable by Mr. Aab. Does not include 29,722 shares issuable upon the exercise of options that are not deemed to be presently exercisable.
(2) Mr. Bennett shares investment and voting power with his wife with respect to 1,500 of these shares. Does not include an option to purchase 5,000 shares granted to him, subject to shareholder approval, under the Non-Employee Directors' Stock Option Plan.
(3) Includes 488 shares owned by Mr. Chesonis's spouse, options to purchase 76,350 shares that are currently exercisable by Mr. Chesonis, and options to purchase 6,950 shares that are currently exercisable by Mr. Chesonis's spouse. Does not include 80,850 shares issuable upon the exercise of options that are not deemed to be presently exercisable by Mr. Chesonis nor 3,050 shares issuable upon the exercise of options that are not deemed to be presently exercisable by Mr. Chesonis's spouse.
(4) Includes options to purchase 56,406 shares that are currently or will become exercisable by Mr. Laniak within the next 60 days. Does not include 37,694 shares issuable upon the exercise of options that are not deemed to be presently exercisable.
(5) Mr. Tessoni and his wife share investment and voting power with respect to all shares which he beneficially owns. Does not include an option to purchase 5,000 shares granted to him, subject to shareholder approval, under the Non-Employee Directors' Stock Option Plan.
(6) Includes (i) 456,750 shares of Class A Common Stock beneficially owned by Fleet Venture Resources, Inc. (''Fleet Venture Resources''), of which 393,750 shares are issuable upon the conversion of Series A Preferred Stock and 63,000 shares are issuable upon the exercise of warrants; (ii) 195,750 shares of Class A Common Stock beneficially owned by Fleet Equity Partners VI, L.P. (''Fleet Equity Partners''), of which 168,750 shares are issuable upon the conversion of Series A Preferred Stock and 27,000 shares are issuable upon the exercise of warrants; and (iii) 72,500 shares of Class A Common Stock beneficially owned by Chisholm Partners II, L.P. (''Chisholm''), of which 62,500 shares are issuable upon the conversion of Series A Preferred Stock and 10,000 shares are issuable upon the exercise of warrants. As of March 1, 1996, the conversion price for the Series A Preferred Stock and the exercise price of such warrants was $16.00 per share. Does not include a total of 625,000 shares of Class A Common Stock issuable to Fleet Venture Resources, Fleet Equity Partners and Chisholm upon the exercise of warrants, which warrants would become exercisable upon an optional redemption of the Series A Preferred Stock by the Company. Mr. Van Degna is the Chairman and Chief Executive Officer of Fleet Venture Resources and the Chairman and Chief Executive Officer or President of each general partner of Fleet Equity Partners and Chisholm. Mr. Van Degna disclaims beneficial ownership of the shares held by these entities, except for his limited partnership interest in Fleet Equity Partners and in the general partner of Chisholm.
(7) Includes options to purchase 20,100 shares that are currently exercisable by Mr. Bantoft. Does not include 49,900 shares issuable upon the exercise of options that are not deemed to be presently exercisable, nor 10,000 SIRs granted on February 5, 1996.
(8) Includes options to purchase 18,100 shares that are currently exercisable by Mr. Dubnik. Does not include 53,700 shares issuable upon the exercise of options that are not deemed to be presently exercisable.
(9) Includes options to purchase a total of 39,400 shares that are or will become exercisable by four executive officers of the Company, in addition to those named above, within the next 60 days. Does not include a total of 162,575 shares issuable upon the exercise of options that are not deemed to be presently exercisable by five executive officers of the Company, in addition to those named above.
PRINCIPAL HOLDERS OF COMMON STOCK
The following table reflects the security ownership of those persons who are known to the Company to have been the beneficial owners of more than 5% (401,970 shares) of the Company's outstanding Class A Common Stock as of March 1, 1996:
NAME AND ADDRESS AMOUNT AND NATURE OF PERCENT OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP OF CLASS
Richard T. Aab 927,554 (1) 11.5 400 West Avenue Rochester, New York 14611
Robert M. Van Degna 725,000 (2) 8.3 c/o Fleet Venture Resources, Inc. 111 Westminster Street Providence, Rhode Island 02903
Fleet Venture Resources, Inc. 456,750 (3) 5.4 111 Westminster Street Providence, Rhode Island 02903
Montgomery Asset Management, L.P. 445,760 (4) 5.5 600 Montgomery Street San Francisco, California 94111
(1) This number includes 139,500 shares that are owned by Melrich Associates, L.P., a family partnership of which Mr. Aab is a general partner and therefore shares investment and voting power with respect to such shares, and options to purchase 12,322 that are currently exercisable by Mr. Aab. Does not include 29,722 shares issuable upon the exercise of options that are not deemed to be presently exercisable.
(2) Includes (i) 456,750 shares of Class A Common Stock beneficially owned by Fleet Venture Resources, Inc. ("Fleet Venture Resources"), of which 393,750 shares are issuable upon the conversion of Series A Preferred Stock and 63,000 shares are issuable upon the exercise of warrants; (ii) 195,750 shares of Class A Common Stock beneficially owned by Fleet Equity Partners VI, L.P. ("Fleet Equity Partners"), of which 168,750 shares are issuable upon the conversion of Series A Preferred Stock and 27,000 shares are issuable upon the exercise of warrants; and (iii) 72,500 shares of Class A Common Stock beneficially owned by Chisholm Partners II, L.P. (''Chisholm''), of which 62,500 shares are issuable upon the conversion of Series A Preferred Stock and 10,000 shares are issuable upon the exercise of warrants. As of March 1, 1996, the conversion price for the Series A Preferred Stock and the exercise price of such warrants was $16.00 per share. Does not include a total of 625,000 shares of Class A Common Stock issuable to Fleet Venture Resources, Fleet Equity Partners and Chisholm upon the exercise of warrants, which warrants would become exercisable upon an optional redemption of the Series A Preferred Stock by the Company. Mr. Van Degna is the Chairman and Chief Executive Officer of Fleet Venture Resources and the Chairman and Chief Executive Officer or President of each general partner of Fleet Equity Partners and Chisholm. Mr. Van Degna disclaims beneficial ownership of the shares held by these entities, except for his limited partnership interest in Fleet Equity Partners and in the general partner of Chisholm.
(3) Does not include shares beneficially owned by Fleet Equity Partners or Chisholm (see note (2) above).
(4) These shares are held for investment purposes by Montgomery Asset Management, L.P., a registered Investment Advisor, as reported in a Schedule 13G that was filed with the SEC in January 1996, a copy of which was received by the Company.
ITEM 13.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
To accommodate its need for increased space, in June 1994, the Company moved its principal executive offices to an industrial complex located at 400 West Avenue, Rochester, New York, which is owned by a real estate partnership in which Richard T. Aab, the Company's Chairman and former Chief Executive Officer, is a general partner. For 1995, the Company paid a total of approximately $600,000 in rent and maintenance fees for this space to this partnership.
During 1994 and early 1995, the Company initiated efforts to obtain new telecommunications software programs from AMBIX Systems Corp. ("AMBIX"), a software development company. The Company's Chairman of the Board and then Chief Executive Officer, Richard T. Aab, was a controlling shareholder of AMBIX during such period. In May of 1995, anticipating material agreements with AMBIX and desiring to eliminate a conflict of interest situation, all of the common shares owned by Mr. Aab in AMBIX were placed in escrow under the direction of a Special Committee of the Company's Board of Directors with the option of the Special Committee to authorize the Company to accept the transfer and delivery of the shares in exchange for the release or indemnification of Mr. Aab of his personal guarantee of certain obligations of AMBIX to its lender and the substitution of the Company as the guarantor of such obligations. The Special Committee, its outside consultants and the Company's management then proceeded to review and evaluate the software technology and the terms and conditions of proposed transactions with AMBIX.
On February 21, 1996, pursuant to the approval of the Special Committee, a software license agreement was entered into by and between the Company and AMBIX Acquisition Corp., which is the purchaser of AMBIX's intellectual property and other assets and is an affiliate of AMBIX. Immediately prior thereto, the shares of AMBIX held in escrow were returned to AMBIX and the related party nature of the Company's relationship with AMBIX was thereby extinguished. In connection with the return of Mr. Aab's shares to AMBIX, the Company paid approximately $200,000 to AMBIX's lender to release Mr. Aab's personal guarantee of certain obligations of AMBIX to its lender. Such benefit to Mr. Aab was the only consideration he received from the Company for the return of his shares to AMBIX, and, to the Company's knowledge, Mr. Aab did not receive any additional consideration from AMBIX for the return of his shares nor did he receive any cash distributions from AMBIX during his ownership of such shares.
For an aggregate consideration of $1.8 million (including the payment by the Company of certain obligations of AMBIX to its lender) paid to or for the benefit of AMBIX or AMBIX Acquisition Corp., the Company in return has received a perpetual right to use the newly developed telecommunications software programs. In making a business judgment as to the amount of such consideration, the Special Committee considered a number of factors including, among other matters, the opinion of its independent software consultants with respect to the estimated cost of developing the major software program covered by the license, the recommendations of management of the Company who were experienced with oversight responsibilities for the development of software programs, and the known benefit to the Company of the software programs as demonstrated by their preliminary testing and use by the Company. The Company does not know the full costs incurred by AMBIX in developing the software programs.
The software programs and the Company's license to use them are considered by the Company to be material and integral to its operations. During 1995 the Company paid AMBIX $1.2 million, of which approximately $700,000, relating to the purchase of certain hardware and acquisition of certain software licenses, was capitalized and recorded on the balance sheet as a component of property, plant and equipment, and $500,000 relating to software development was expensed. During 1994 the Company paid AMBIX $132,000, all of which related to software development which was expensed. The Company anticipates that it will attempt to negotiate and enter into an arrangement with AMBIX Acquisition Corp. to provide maintenance and support for the software programs. There can be no assurance that the Company will negotiate or enter into any such arrangements or regarding the terms thereof.
On May 22, 1995, Mr. Aab, the Company's Chairman of the Board and then Chief Executive Officer, entered into a Participation Agreement with Fleet Venture Resources, Inc., Fleet Equity Partners VI, L.P. and Chisholm Partners II, L.P. (collectively, the "Fleet Investors") in connection with the purchase by the Fleet Investors of $10 million in aggregate principal amount of 12% convertible subordinated notes of the Company, which notes were subsequently converted into 10,000 shares of Series A Preferred Stock. The Participation Agreement requires Mr. Aab to notify the Fleet Investors and the Company of certain proposed transfers of his Class A Common Stock of the Company and, if any of the Fleet Investors elect to participate in the proposed transaction, Mr. Aab is required to obtain the agreement of the purchaser to acquire from any participating Fleet Investor, at the same price and on the same terms offered to Mr. Aab, a pro rata portion of the shares proposed to be purchased from Mr. Aab. The Participation Agreement does not apply to certain transfers of shares by Mr. Aab, including pursuant to a public offering registered under the Securities Act of 1933, as amended (the "Act"), pursuant to Rule 144 adopted under the Act, certain charitable transfers and transfers resulting from any foreclosure upon shares which have been pledged, and the transfer restrictions are extinguished if Mr. Aab ceases to be a director or employee of the Company or if the Series A Preferred Stock and certain warrants issued to the Fleet Investors are no longer outstanding.
PART IV
ITEM 14.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) FINANCIAL STATEMENTS AND EXHIBITS.
(1) FINANCIAL STATEMENTS. (a) The following Financial Statements of the Company and the accountant's report thereon are included in Part II of this Report above:
Consolidated Financial Statements:
Consolidated Balance Sheets, December 31, 1995 and 1994
Consolidated Statements of Operations for the years ended December 31, 1995, 1994 and 1993
Consolidated Statements of Changes in Shareholders' Equity for the years ended December 31, 1995, 1994 and 1993
Consolidated Statements of Cash Flows for the years ended December 31, 1995, 1994 and 1993
Notes to Consolidated Financial Statements
Report of Independent Public Accountants
(b) Financial Statements for ACC Corp. Employee Stock Purchase Plan for Plan year ended December 31, 1995:
Report of Independent Public Accountants
Statement of Financial Condition
Statement of Changes in Participants' Equity
Notes to Financial Statements
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Plan Administrator of the ACC Corp. Employee Stock Purchase Plan:
We have audited the accompanying statements of financial condition of the ACC Corp. Employee Stock Purchase Plan (the "Plan") as of December 31, 1995 and 1994, and the related statements of changes in participants' equity for the year ended December 31, 1995 and for the period from adoption (February 8, 1994) to December 31, 1994. These financial statements are the responsibility of the Plan's management. Our responsibility is to express an opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the financial condition of the Plan as of December 31, 1995 and 1994, and the results of its changes in participants' equity for the year ended December 31, 1995 and for the period from adoption (February 8, 1994) to December 31, 1995, in conformity with generally accepted accounting principles.
/s/ Arthur Andersen LLP Rochester, New York February 23, 1996
ACC Corp. Employee Stock Purchase Plan Statements of Financial Condition December 31, 1995 and 1994
ASSETS: 1995 1994
Receivable from ACC Corp. $683 $557
TOTAL ASSETS $683 $557
LIABILITIES AND PARTICIPANTS' EQUITY: Participants' equity $683 $557
TOTAL LIABILITIES AND PARTICIPANTS' EQUITY $683 $557
The accompanying notes to financial statements are an integral part of these statements.
ACC Corp. Employee Stock Purchase Plan Statements of Changes in Participants' Equity For the Year Ended December 31, 1995 and For the Period from Adoption (February 8, 1994) to December 31, 1994
1995 1994 ADDITIONS: Employee contributions $331,256 $155,651
DEDUCTIONS:
Stock purchased 296,023 151,600 Employee withdrawals 35,107 3,494
Total deductions 331,130 155,094
NET INCREASE IN PARTICIPANTS' EQUITY 126 557 PARTICIPANTS' EQUITY, BEGINNING OF PERIOD 557 -
PARTICIPANTS' EQUITY, END OF PERIOD $683 $557
The accompanying notes to financial statements are an integral part of these statements.
ACC Corp. Employee Stock Purchase Plan Notes to Financial Statements
1. PLAN DESCRIPTION:
The ACC Corp. Employee Stock Purchase Plan (the "Plan") was adopted by the Board of Directors on February 8, 1994 and was ratified by the shareholders on October 13, 1994. The first offering period began July 1, 1994. Officers did not participate until the ratification by the shareholders occurred. The Plan was established to provide employees with increased employment and performance incentives and to enhance ACC Corp.'s (the "Company") efforts to attract and retain employees of outstanding ability. The Plan permits eligible Company employees to make periodic purchases of shares of the Company's Class A Common Stock through payroll deductions at prices below then-prevailing market prices. As of December 31, 1995, 500,000 shares of the Company's Class A Common Stock (which may be treasury shares, authorized and unissued shares, or a combination thereof at the Company's discretion) are reserved for issuance under the Plan. The Plan is administered by the Executive Compensation Committee of the Board of Directors of ACC Corp. (the "Committee"). None of the members of the Committee is eligible to participate in the Plan. Reference should be made to the Plan for more complete information.
Any employee of the Company or any of its subsidiaries who is employed at least 20 hours per week is eligible to participate in the Plan. Participants may enroll in the Plan prior to an offering commencement date. Employees may authorize payroll deductions of up to 15% of their then-current straight-time earnings during the term of an offering, which will be applied to the purchase of shares under the Plan. These payroll deductions will begin on that offering commencement date and will end on the last purchase date applicable to any offering in which he/she holds any options to purchase shares of the Company's Class A Common Stock, or if sooner, on the effective date of his/her termination of participation in the Plan. Newly hired employees hired subsequent to an offering commencement date may begin participation in the Plan at the beginning of the next calendar quarter following their date of hire.
Payroll deductions will be held by the Company as part of its general funds for the credit of the participants and will not accrue interest pending the periodic purchase of shares under the Plan. On the last business day of each calendar quarter during the term of an offering, a participant will automatically be deemed to have exercised his/her options to purchase, at the applicable purchase price, the maximum number of full shares that can be purchased with the amounts deducted from the participant's pay during that quarter, together with any excess funds from preceding quarters. The purchase price at which shares may be purchased under the Plan is 85% of the closing price of the Company's Class A Common Stock in Nasdaq trading on either a) the offering commencement date (or, in the case of interim participation by newly hired employees, the date on which they are permitted to begin participation in that offering) or b) the date on which shares are purchased through the automatic exercise of an option to purchase shares under the Plan, whichever is lower. The maximum number of shares that a participant will be permitted to purchase in any single offering is subject to certain limitations, as set forth in the plan document.
A participant may, at any time and for any reason, withdraw from further participation in any offering or from the Plan by giving written notice. In such event, the participant's payroll deductions which have been credited to his/her plan account and not already expended to purchase shares under the Plan will be refunded without interest. No further payroll deductions will be made from his/her pay during the term of that offering. No withdrawing participant will be permitted to re-commence his/her participation in an offering, however, termination of participation in an offering or in the Plan will not have any effect upon subsequent eligibility to participate in the Plan. A participant's retirement, death or other termination of employment will be treated as a permanent withdrawal from participation. In the event of a participant's death, his/her estate or designated beneficiary shall have the right to elect, no later than 60 days following his/her date of death, to receive either the accumulated payroll deductions in the deceased participant's plan account or to exercise, on the next subsequent purchase date, the deceased participant's options to purchase the number of full shares of Class A Common Stock that can be purchased with the balance in the decedent's plan account as of his/her date of death, together with the return of any excess cash, without interest.
The Plan will expire on the first to occur of the following: (1) the date as of which participants purchase a number of shares equal to or greater than the number of shares authorized for issuance under the Plan; or (2) the date as of which the Board of Directors of the Company or the Committee terminates the Plan. In either case, all funds accumulated in each participant's plan account but not yet expended to purchase shares will be refunded without interest. If the Plan is terminated by reason of the exercise of rights to purchase a greater number of shares than are authorized for issuance under the Plan, all remaining shares available for issuance will be allocated to participants on a pro-rata basis.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
The financial statements are prepared using the accrual basis of accounting. The Company pays all of the Plan's administrative expenses.
3. INCOME TAX STATUS:
The Plan is intended to qualify as an employee stock purchase plan under Section 423 of the Internal Revenue Code. In order for favorable tax treatment to be available to the participant, the participant cannot dispose of any shares acquired under the Plan within two years following the date the option to purchase was granted, nor within one year following the date the shares were actually purchased.
4. STOCK PURCHASES:
Stock purchases by offering period are as follows:
Purchase price Number of Offering Period Valuation Date per share shares purchased
July 1, 1994 - July 1, 1994 $13.625 8,681 December 31, 1994 December 31,1994* $14.750 4,073 January 1, 1995 - December 31, 1994 $14.75 17,935 December 31, 1995 March 31, 1995* $16.75 70 June 30, 1995* $14.75 67 September 30, 1995* $16.50 51
July 1, 1995 - June 30, 1995 $14.75 5,164 December 31, 1995 September30, 1995* $16.50 275
*For those employees who began participation during the offering period.
The valuation date is the date during the offering period, as defined, on which the stock price was the lowest, therefore becoming the base for the calculation of shares to be purchased.
(2) FINANCIAL STATEMENT SCHEDULES. The following Financial Statement Schedules and the accountant's report thereon are included herewith as follows:
Report of Independent Public Accountants
II Consolidated Valuation and Qualifying Accounts for the years ended December 31, 1995, 1994 and 1993
All other schedules are not submitted because they are not applicable, not required or because the required information is included in the consolidated financial statements or notes thereto.
(3) EXHIBITS. The following constitutes the list of exhibits required to be filed as a part of this Report pursuant to Item 601 of Regulation S-K:
* Indicates a management contract or compensatory plan or arrangement required to be filed as an exhibit to this Report pursuant to Item 14(c) of this Report.
(b) REPORTS ON FORM 8-K. On October 27, 1995, the Company filed a Report on Form 8-K (which was amended on December 8, 1995) to report, under the heading of Item 2, Acquisition or Disposition of Assets, on the August 14, 1995 acquisition by the Company's 70% owned Canadian subsidiary, ACC TelEnterprises Ltd., of four affiliated privately-held Canadian corporations operating under the business name of Metrowide Communications. No financial statements were required to be filed with this Report.
(c) EXHIBITS. See Exhibit Index.
(d) FINANCIAL STATEMENT SCHEDULES. Are attached, along with the report of the independent public accountants thereon, as follows:
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To ACC Corp.:
We have audited in accordance with generally accepted auditing standards the financial statements included in this Form 10-K, and have issued our report thereon dated February 6, 1996 (except with respect to the matters discussed in Notes 10 and 11.A, as to which the dates are February 20, 1996 and February 8, 1996, respectively). Our audit was made for the purpose of forming an opinion on those statements taken as a whole. The schedules listed in the accompanying index are the responsibility of the Company's management and are presented for purposes of complying with the Securities and Exchange Commission's rules and are not part of the basic financial statements. These schedules have been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly state in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole.
/s/ Arthur Andersen LLP Rochester, New York March 29, 1996
________________________________ (1) Represents valuation allowance associated with loss carryforwards of Metrowide Communications which was purchased by ACC Canada on August 1, 1995.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized.
ACC CORP.
Dated: March 29, 1996 By:/s/ David K. Laniak David K. Laniak, Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons, on behalf of the Company and in the capacities and on the dates indicated.
Dated: March 29, 1996 By:/s/ David K. Laniak David K. Laniak, Chief Executive Officer and a Director
Dated: March __, 1996 By:____________________________________ Richard T. Aab, Chairman of the Board and a Director
Dated: March 29, 1996 By:/s/ Michael R. Daley Michael R. Daley, Executive Vice President and Chief Financial Officer (Principal Financial and Accounting Officer)
Dated: March 29, 1996 By: /s/ Hugh F. Bennett Hugh F. Bennett, Director
Dated: March 29, 1996 By: /s/ Arunas A. Chesonis Arunas A. Chesonis, President and Chief Operating Officer and a Director
Dated: March __, 1996 By:___________________________________ Willard Z. Estey, Director
Dated: March 29, 1996 By: /s/ Daniel D. Tessoni Daniel D. Tessoni, Director
Dated: March 29, 1996 By: /s/ Robert M. Van Degna Robert M. Van Degna, Director