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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
___________
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from __________ to __________
COMMISSION FILE NUMBER 0-26140
HIGHWAYMASTER COMMUNICATIONS, INC.
(Exact name of Registrant as specified in its charter)
DELAWARE 51-0352879
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
16479 DALLAS PARKWAY, SUITE 710
DALLAS, TEXAS 75248
(Address of principal executive offices, including zip code)
(Registrant's telephone number, including area code): (972) 732-2500
Securities Registered Pursuant to Section 12(b) of the Act: NONE
Securities Registered Pursuant to Section 12(g) of the Act:
COMMON STOCK, $.01 PAR VALUE
(Title of each Class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the last 90 days. YES X NO .
----- -----
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. / /
The aggregate market value of the voting stock held by non-affiliates of
the Registrant as of March 21, 1997 was $91,860,599.*
The number of shares outstanding of Registrant's Common Stock was 24,853,808
as of March 21, 1997.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of Registrant's definitive Proxy Statement to be filed with the
Securities and Exchange Commission pursuant to Regulation 14A in connection
with the 1997 annual meeting of stockholders are incorporated herein by
reference into Part III of this Report. Such proxy statement will be filed
with the Securities and Exchange Commission not later than 120 days after the
Registrant's fiscal year ended December 31, 1996.
Certain exhibits filed with the Registrant's Registration Statement on
S-1 (Registration No. 33-91486), as amended, the Registrant's Annual Report
on Form 10-K for the fiscal year ended December 31, 1995, the Registrant's
Form 10-Q Quarterly Report for the quarterly period ended June 30, 1996, the
Registrant's Current Report on Form 8-K filed on October 7, 1996, and the
Registrant's Form 10-Q Quarterly Report for the quarterly period ended
September 30, 1996 are incorporated herein by reference into Part IV of this
Report.
- -------------------
*Excludes the Common Stock held by executive officers, directors and
stockholders whose ownership exceeds 5% of the Common Stock outstanding at
March 21, 1997. Exclusion of such shares should not be construed to indicate
that any such person possesses the power, direct or indirect, to direct or
cause the direction of the management or policies of the Registrant or that
such person is controlled by or under common control with the Registrant.
HighwayMaster Communications, Inc.
FORM 10-K
For the Fiscal Year Ended December 31, 1996
INDEX
PAGE
----
PART I
ITEM 1. BUSINESS..................................................... 1
GENERAL...................................................... 1
The Company............................................... 1
Trucking Industry Overview................................ 1
Mobile Communications Needs in the Trucking Industry...... 2
The HighwayMaster Products and Services................... 3
Infrastructure............................................ 6
Strategic Service Alliances of the Company................ 9
Product Manufacturing and Supply.......................... 11
Marketing and Distribution................................ 11
Customer Service and Warranty............................. 11
Current Installed Base.................................... 12
Additional Growth Opportunities........................... 13
Competition............................................... 15
Patents and Proprietary Technology........................ 17
Regulation................................................ 18
Employees................................................. 18
RECENT FINANCING TRANSACTIONS................................ 19
SBW Transactions.......................................... 19
Recapitalization Transactions............................. 19
RISK FACTORS................................................. 20
Forward Looking Statements................................ 20
Limited Operating History; History of Losses.............. 20
Status of AT&T Contract; Network Services Center.......... 20
Operational Difficulties.................................. 21
AT&T Litigation........................................... 21
Dependence on Cellular Infrastructure..................... 22
Dependence on Clearinghouse Services...................... 22
Product Supply Arrangements............................... 23
Lack of Capitalization and Other Resources Required
for Growth.............................................. 23
Amended Stockholders' Agreement; Control of the Company... 23
Common Stock Available for Purchase by SBW................ 24
Certain Rights of SBW..................................... 24
Competition and Technological Change...................... 25
Billing Discrepancies..................................... 26
Uncertainty Regarding Patents and Proprietary Rights...... 26
Uncertainty of Government Regulation...................... 27
Dependence on Key Personnel............................... 28
Product Liability......................................... 28
Dividend Policy........................................... 28
Shares Eligible for Future Sale........................... 28
Volatility of Stock Price................................. 29
ITEM 2. PROPERTIES................................................... 29
Real Property and Leases.................................. 29
ITEM 3. LEGAL PROCEEDINGS............................................ 29
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.......... 30
i
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS........................................ 30
ITEM 6. SELECTED FINANCIAL DATA...................................... 31
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS........................ 32
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.................. 37
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE....................... 38
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT........... 39
ITEM 11. EXECUTIVE COMPENSATION....................................... 39
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT............................................ 39
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS............... 39
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 10-K ............................................. 40
ii
PART I
ITEM 1. BUSINESS
GENERAL
THE FOLLOWING DISCUSSION IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED
INFORMATION AND CONSOLIDATED FINANCIAL STATEMENTS (INCLUDING THE NOTES THERETO)
APPEARING ELSEWHERE IN THIS ANNUAL REPORT ON FORM 10-K. STOCKHOLDERS SHOULD
CAREFULLY CONSIDER THE INFORMATION PRESENTED UNDER "RISK FACTORS" BELOW.
THE COMPANY
HighwayMaster Communications, Inc., a Delaware corporation, was originally
incorporated as HM Holding Corporation on January 28, 1994. HighwayMaster
Communications, Inc. holds all of the outstanding shares of its operating
subsidiary, HighwayMaster Corporation (hereinafter, jointly with HighwayMaster
Communications, Inc., referred to as "HighwayMaster" or the "Company"). The
Company operates a wireless enhanced services network with both voice and data
capabilities in 99% of the available cellular coverage areas in the United
States and 100% of the A-Side cellular coverage areas in Canada. This network
covers approximately 95% of the United States interstate highway system and
consists of a unique integration of Company provided on-board equipment and
software with various transmission, long distance, switching, tracking and other
services and facilities provided by certain telecommunications companies and
more than 70 cellular carriers. Through this private network, the Company
provides integrated mobile voice, data, tracking, and fleet management
information services to trucking fleets and other operators in the long-haul
segment of the transportation industry.
The HighwayMaster system includes a Mobile Communication Unit (the "Mobile
Communication Unit" or "Unit") installed in each truck and a proprietary
dispatch software package developed by the Company for use by trucking
companies. The Mobile Communication Unit transmits and receives voice and data
communication to and from long-haul trucks through the Company's private
network. In addition, the Unit contains a sophisticated navigational tracking
device that enables dispatchers to obtain accurate position reports for trucks
located anywhere in the United States and Canada. The Company's dispatch
software package enables a trucking company to optimize the use of its fleet by
processing data transmitted by Mobile Communication Units and performing a
variety of fleet management functions.
The Company is in the process of expanding its services to include a
broader range of information management systems and services for the
trucking industry, as well as offering access to its proprietary network and
technology for use in automotive security systems. See "--Additional Growth
Opportunities."
TRUCKING INDUSTRY OVERVIEW
Industry publications indicate that there were 16.2 million commercial
vehicles registered in the United States in 1993. A 1992 survey published by
the United States Census Bureau showed approximately 2.6 million commercial
trucks were in larger-size categories likely to be traveling on interstate
highways. Although the Company expects to generate business from all sectors
of the trucking industry and related industries, the Company is currently
focusing on a core group of trucking fleets and other operators who own or
operate approximately 700,000 to 800,000 trucks.
1
The Company's initial target market consists of private and for-hire fleet
operators, owner-operators and other operators of larger-size trucks that
utilize the United States and Canadian highway systems. FOR-HIRE CARRIERS are
companies whose primary business is trucking and whose revenues are from
transporting goods on a for-hire basis. PRIVATE FLEETS are operated by
non-trucking firms that haul their own freight. OWNER/OPERATORS are individuals
who own and operate their own trucks. Some owner-operators work for a single
company under a lease agreement, while others work with transportation brokers
to find loads or operate their own small transportation businesses.
Partial deregulation in 1980 has resulted in lower barriers to entry and
increased competition in the long-haul trucking industry. Greater efficiency
and lower prices have attracted customers away from other modes of land
transportation to the trucking industry. Between 1983 and 1993, the number of
miles driven by medium and heavy duty trucks increased by 41%, and the number of
tractor registrations increased by 4%. Total gross freight revenue of the
trucking industry reported by the ICC in 1993 was approximately $345.0 billion.
Management believes that enhancing efficiency through cost-effective
mobile communication will be an important component of improved profitability
for trucking companies. As a result, management believes that there is
strong demand in this market for cost-effective communications systems that
enable voice and data messages to be transmitted to and from long-haul
trucks. Management estimates that approximately 5% of larger size commercial
trucks and approximately 25% of trucks operated by the core group of trucking
fleets and other operators on which the Company is focusing are currently
equipped with any form of nationwide two-way mobile communications, including
satellite systems and traditional cellular communications.
MOBILE COMMUNICATIONS NEEDS IN THE TRUCKING INDUSTRY
The Company believes that demand for the HighwayMaster system will continue
to grow as trucking companies experience increased industry competition and face
mounting internal and external pressures to adopt mobile communications systems.
External pressures include competition from the increasing number of
trucking companies that are installing mobile communications systems, demands
placed on the long-haul trucking industry to meet just-in-time inventory
demands, and regulatory and environmental requirements. The Company
estimates that long-haul trucking fleets have installed approximately 160,000
mobile communications systems since 1988 in the United States and the Company
believes that this will increasingly place those fleets without service at a
competitive disadvantage. Furthermore, as just-in-time delivery inventory
control becomes more prevalent, manufacturers increasingly will require that
materials arrive immediately before incorporation into the manufacturing
process. The resulting pressure on trucking companies has stimulated demand
for more efficient two-way communications systems to assure on-time pick-up
and delivery, improved load matching within a widely dispersed fleet and
current tracking of shipment location. In fact, certain large shippers
require all new contracting trucking companies to be equipped with on-board
communications and tracking equipment. Additionally, trucking companies must
maintain detailed records relating to miles driven by state, hours driven by
each driver and other information. Some hazardous substances may only be
transported over certain routes. The HighwayMaster system automatically
gathers required information and aids in the optimal routing of trucks.
2
Internal pressures include containing costs through improved operating
efficiency, improving driver quality of life thereby reducing critical
turnover rates, and increasing the safety of drivers, capital equipment and
cargo by reducing the likelihood of accidents. The HighwayMaster system
assists trucking companies in improving efficiency by increasing the
utilization of equipment and reducing the number of empty miles and
out-of-route miles. With the HighwayMaster system, it is not necessary for
truck drivers to make frequent stops to place telephone calls to dispatchers.
In addition, the Company's system allows swift and efficient matching of
drivers with shipments, thereby reducing layovers and fuel costs associated
with empty miles.
With driver turnover approaching 100% in the trucking industry today, the
Company believes that trucking companies can increase driver satisfaction and be
more successful in attracting and retaining competent drivers by giving a driver
the ability to contact or be contacted by family and friends while on the road.
Furthermore, since driver bonuses are often calculated based on loaded miles
driven and overall efficiency, drivers benefit from a system that allows them to
be more efficient and avoid unnecessary stops.
Finally, by allowing a driver to communicate using "hands free"
voice-activated equipment while traveling, as the HighwayMaster system does, the
distractions and hazards of placing or receiving a call while on the road are
minimized. Voice commands spoken into a microphone clipped to the visor and
synthesized voice responses from the Units provide a safety advantage over
traditional cellular telephones, which must be grasped with one hand during
operation and over full keyboard typing necessary to operate competing
satellite-based systems, which drivers are not permitted to use while the
vehicle is in motion. Further, by enabling the driver to communicate while
traveling in his vehicle, the HighwayMaster system reduces stops to make
telephone calls at truck stops, where management believes a large percentage of
all trucking accidents occur. The HighwayMaster system also automatically
reports time, speed and routes driven by each truck to the dispatcher, which can
be used to enhance safety troubleshooting and driver safety counseling, and the
tracking service enables the trucking company to locate stolen trucks or trucks
involved in a roadside emergency.
THE HIGHWAYMASTER PRODUCTS AND SERVICES
The Company believes that the HighwayMaster system represents the most
complete and cost-effective package of mobile communication services and
products currently available to the long-haul trucking industry. The
Company's private enhanced services network provides the link between the
dispatcher and each truck. The dispatcher and truck can maintain contact by
voice and data communication, and the dispatcher can obtain automated reports
regarding the location of each truck, generally accurate to within 100 yards.
PRICING. The Company's products and services are economically priced to
appeal to virtually all participants in the long-haul trucking industry. The
Company offers the on-board Mobile Communication Unit at a retail price of
$1,995, with tiered discounts for larger volume purchases. The Company's
customers are charged a flat fee of $0.53 per minute for voice communication
within the United States and $0.64 per minute for cross-border communication
with Units in Canada, which includes all cellular air time and long-distance
charges, $0.48 per minute for data transmission within the United States and
$0.59 for cross-border data transmissions and $41 per month per installed
Mobile Communication Unit to utilize the system. In addition, callers are
charged a fee for each call billed to a separate account, such as a credit
card, calling card or HighwayMaster account. The Mobile Communication Unit
is installed in the customer's trucks, and the dispatcher is
3
equipped with mapping and management software at no additional charge. This
software can be integrated into the host computer systems operated by the
Company's customers or can be installed and operated on a personal computer
equipped with a hard disk and a modem.
MOBILE COMMUNICATION UNIT DESCRIPTION. HighwayMaster equipment mounted in
each truck includes the following: (i) a menu-driven display module which
provides two large lines of scrollable text on the dashboard; (ii) a microphone
which clips on the sun visor for "hands free" communication utilizing
voice-recognition and voice-synthesis technologies; (iii) a modified cellular
telephone handset and cradle; (iv) a cellular antenna; (v) a GPS navigational
antenna; and (vi) a computerized system module in the vehicle which contains the
positional reporting device, the cellular transceiver and the on-board computer.
The system module also houses voice-activation and voice-synthesis software,
data storage capability and unique technology that effectively eliminates the
risk of cellular roaming fraud. The module provides ports to allow for
incorporation of current and future peripheral equipment, such as a fax machine,
scanner, printer, engine monitoring equipment and trailer temperature
monitoring. The Mobile Communication Unit was designed to be "user-friendly,"
to have installation times that are shorter than competing satellite unit
installations, and to limit driver training to an average of one hour. The
system module is remotely programmable from the host computer by the trucking
company and by HighwayMaster.
VOICE COMMUNICATIONS. The Company provides nationwide voice
communications services at a rate of $0.53 per minute for calls within
the United States. By comparison, currently available cellular long-distance
call delivery systems require the payment of rates that are significantly
higher than those charged by the Company. The driver controls the functions
of the Mobile Communication Unit by an enhanced cellular telephone handset.
A microphone clipped to the truck's visor and voice-recognition capability
also allow the system to be controlled by the driver's voice commands. While
in a cellular region covered by HighwayMaster, a driver may initiate
telephone calls to any phone number pre-approved by the dispatcher, and the
dispatcher may initiate telephone calls to the driver. Drivers may be issued
calling card accounts by HighwayMaster or use selected credit cards, for
units operating under the Company's Network Services Center (the "NSC"), or
may be issued calling cards by AT&T Corp. ("AT&T"), for units operating under
the AT&T Complex (as defined herein), that allow them to place personal
telephone calls to any telephone number. Such calls are billed separately to
the drivers' home addresses. See "--Infrastructure -- Enhanced Service
Complexes." The nationwide call delivery feature, combined with
calling-party payment for calls, sets the Company's product apart from
conventional cellular service.
DATA TRANSMISSION. The Mobile Communication Unit permits the
transmission and receipt of data between a truck and a dispatcher. The $0.48
per minute charge for data transmissions within the United States translates
into costs as low as $0.0007 per character for a typical dispatch message of
between 600 and 700 characters. The dispatcher may type free form data
messages, which appear on the driver's data display screen on the dashboard
and can be stored for future reference. The driver may send up to 99
pre-programmed status messages with accompanying numerical data such as "At
Dock Loading" or "Trailer Number 21" that automatically update the trucking
company's host computer, eliminating the data entry function a dispatcher
must perform at the trucking company. The driver also may enter status
messages by voice command or through the telephone handset keypad. Certain
options allow the Mobile Communication Unit to monitor engine speed and
temperature, automatically transmitting the data to the trucking company.
Future enhancements may allow for trailer temperature monitoring and other
features.
4
FACSIMILE TRANSMISSION. The Company provides nationwide facsimile
communications services at a rate of $0.53 per minute for either local or
long-distance fax transmissions. Fax Interface is a recent product advancement
which assists customers in transmission and receipt of documents such as bills
of lading, permits and detailed instructions that a truck driver might need on
an immediate basis.
FLEET TRACKING. Precise position and historical route reports are
automatically provided to the dispatcher's PC with each call to or from the
truck. For the cost of $0.48 per minute of data transmission time within the
United States and $0.59 per minute for cross-border data transmissions, the
dispatcher can obtain a real-time position report from a specific truck by
keyboard request. Reports are generally accurate to within 100 yards. These
reports include position logs, which are stored internally by each Mobile
Communication Unit, providing historical route information even if the truck
travels out of cellular coverage. A trucking company's use of these tracking
capabilities can improve management and facilitate better customer service.
The navigational tracking capabilities of the HighwayMaster system reduce the
number of out-of-route miles and facilitate efficient matching of drivers
with loads, thereby reducing expenses and empty miles driven.
INTEGRATED FLEET MANAGEMENT SOFTWARE. The Company's software package
enables a trucking company to optimize the use of its fleet by processing data
transmitted by its Mobile Communication Units, managing dispatch records, driver
logs, state fuel tax calculations, route planning and other functions. The
dispatch software can be loaded on to a PC equipped with a modem, or the system
can be interfaced directly to be networked with a midrange or a mainframe
computer for access by the dispatcher or a shipper. The software performs
essentially three functions: (i) order entry, (ii) dispatch and tracking, and
(iii) truck reconciliation and mapping. The order entry function stores and
manages the ordering information related to each shipment, including the
assignment of loads to specific trucks, required delivery times and bills of
lading. The dispatch and tracking function utilizes GPS location information
along with data entered by the driver, to provide information for any truck
within the fleet, including destination, load, drivers' identification and
mileage driven. The truck reconciliation and mapping application provides
historical information such as percentage of on-time deliveries and miles driven
per state for fuel tax calculation. An online interstate highway map can be
used to graphically plot the routes traveled by each truck. The system can
highlight trucks that are running behind schedule or are available for load
pick-ups.
ROLLING ETA. Rolling ETA-TM- is an enhancement to the Company's Model 5000
Series which instructs the HighwayMaster system's microprocessor mounted inside
the truck to calculate the estimated arrival time based upon average speed,
hours per day and delivery parameters and alerts the driver and dispatcher
automatically if the truck is going to miss an arrival time.
HighwayMaster is continuing the development of its operational software.
The principal software suppliers that currently market full feature software
application programs to trucking companies offer interfaces to the HighwayMaster
system (which allow data communication directly between the trucking company's
existing mainframe computer and the Company's Mobile Communication Units).
These third party software suppliers generally offer the customized
HighwayMaster interface at reasonable cost directly to their customers.
HighwayMaster provides some custom interface development to very large
customers.
5
Although HighwayMaster software operating on a host PC is necessary to send
and receive data messages and to access tracking and mapping information, it is
not necessary for use of the voice communication functions of the Mobile
Communication Unit. In sales to small owner/operators, voice communication
appears to be the primary selling factor for the system, with some purchasers
opting to receive periodic reports from a host operated by the Company instead
of installing a host PC in their dispatch offices.
INFRASTRUCTURE
CONFIGURATION OF THE HIGHWAYMASTER SYSTEM. The diagram below depicts the
configuration of the HighwayMaster system and relationships among the various
participants:
[Diagram of HighwayMaster System, which illustrates the connections among
(1) the Mobile Communication Unit, (2) the cellular carrier, (3) GTE-TSI,
(4) EDS, (5) the switching complex, (6) long distance and local exchange
carriers, (7) the dispatcher's PC, (8) all other telephones and (9) GPS
satellites]
The processes illustrated above are fully automated, allowing
communication with drivers from any telephone in the United States and
Canada. As the driver enters a new cellular coverage area, the Mobile
Communication Unit (1) automatically sends an identifying signal to the
cellular carrier (2). This cellular carrier information is sent via
specialized hardware and software provided by GTE-TSI (3) and occasionally
EDS (4) to a switching complex owned and operated by HighwayMaster or AT&T
(5) so such switching complex will be able to direct future incoming calls
for that driver to the appropriate cellular carrier. In the third quarter of
1996, the Company began commercial service with its own switching complex,
the NSC. For new customers commencing service since July 1, 1996, all
transmissions are routed through the NSC. For most customers commencing service
prior to such time, transmissions continue to be routed through a switching
complex maintained and operated by AT&T (the "AT&T Complex"). See "-- Enhanced
Service Complexes."
When the driver makes a phone call, the Mobile Communication Unit (1) is
connected to a switching complex (5) via the cellular carrier (2) and
existing long distance lines (6), and such switching complex switches the
call to the appropriate destination, which may be the Dispatcher PC for data
(7) or any other telephone for voice (8). The Company's NSC requires entry
of a personal billing account or selected credit card number, and the AT&T
Complex requires entry of an AT&T Calling Card number, for separate billing
of personal calls. See "-- Enhanced Service Complexes."
When dispatchers or outside callers desire to call a driver, their calls
are switched by the switching complex (5) directly over existing long distance
lines and local exchange carriers (6) to the appropriate
6
cellular carrier (2), which completes the call to the driver (1). Data
messages are first stored in the switching complex (5) and then passed to or
from the Dispatcher PC (7) and the Mobile Communication Unit (1).
The Mobile Communication Unit (1) automatically records a precise
position report obtained from GPS satellites (9) on a continuous basis. This
log of reports and any other stored data is uploaded to the appropriate
switching complex with every business voice or data call made to or from the
Mobile Communication Unit. Additionally, the Dispatcher PC (7) can initiate
a call at any time to obtain an immediate position report from any truck.
CELLULAR INDUSTRY. Cellular communication has emerged as the dominant
service in wireless voice communication. The cellular infrastructure utilized
by the Company is already in place. By contrast, the Company's satellite and
SMR competitors must expend substantial amounts of capital and several years of
development time to construct networks capable of transmitting and receiving
voice messages from customers nationwide.
The Federal Communications Commission (the "FCC") has provided for a
two-operator duopoly in each cellular market. Only two licenses are awarded
to provide cellular service in any specific cellular MSA or RSA. One of the
two licenses in each market is initially awarded to a company or group that
is affiliated with a local landline telephone carrier in the market (the
"Wireline" or "B-Side" license) and the other license in each market is
initially awarded to a company, individual or group not affiliated with any
landline telephone carrier (the "Non-Wireline" or "A-Side" license). The
HighwayMaster system utilizes both the A-Side and B-Side carriers in its
coverage areas, and has agreements with both carriers in approximately 30% of
its markets, allowing system redundancy and greater flexibility. In addition
to cellular licenses, the FCC may issue up to six licenses in each market to
personal communications services ("PCS") providers. At the present time, PCS
is generally available only in certain metropolitan markets but is expected
to create increased competition for cellular operators where available.
Increased demand for cellular service is driving investment in cellular
networks and improving service coverage. Cumulative capital investment
within the cellular industry has reached $32.5 billion as of December 1996,
up from $6.3 billion in December 1990. Total number of cell sites increased
to 30,045 in December 1996 up from 10,307 in December 1992. Total cellular
customers reached more than 44.0 million in December 1996.
Management believes that ordinary cellular subscribers utilizing services
outside of their home market will continue to be assessed roamer and long-
distance surcharges, although roaming rates are expected to decline. Another
shortcoming in current roamer usage of cellular services is that the cellular
industry has failed to provide an effective and universal incoming call delivery
system to subscribers on a nationwide basis. Current autonomous-registration
call delivery systems are generally available in urban areas and are becoming
more prevalent in rural markets. These shortcomings in nationwide cellular
coverage have been overcome in the HighwayMaster system, because it offers
nationwide call delivery in coverage areas which include approximately 95% of
the United States interstate highway system, and air time rates that are free
of roamer and variable long-distance surcharges.
Management believes that due to the large number of existing cellular
subscribers, consumer ownership of many cellular telephones and the extensive
capital investment by cellular carriers in the existing cellular
infrastructure, it is unlikely that the existing cellular network will be
abandoned or replaced by SMR or other competing technologies. A number of
cellular carriers are in the process of upgrading from existing analog
cellular systems to enhanced systems utilizing digital technology. However,
management believes that the large number of analog telephones already owned
by cellular subscribers will ensure that cellular telephone operators
continue to
7
offer services to existing analog users concurrently with digital users, over
an extended or indefinite phase-in period that exceeds the expected useful
life of the Mobile Communication Units.
ENHANCED SERVICE COMPLEXES. From 1993 to 1996, the Company and AT&T were
parties to a contract (the "AT&T Contract") pursuant to which AT&T provided
enhanced call processing and data management services and long-distance
transport for the Company and its customers through the AT&T Complex. AT&T
terminated the AT&T Contract effective as of June 29, 1996. In the third
quarter of 1996, the Company began commercial service with its own switching
complex, the NSC, which was designed and constructed for the Company by IEX
Corporation ("IEX"). For new customers commencing service after June 29,
1996, the NSC has fully replaced the AT&T Complex. For most customers
commencing service prior to such time, AT&T continues to provide services
through the AT&T Complex without a formal contract with the Company in
fulfillment of AT&T's obligations under existing service agreements entered
into with each customer.
Both the NSC and the AT&T Complex provide switching services among each
Mobile Communication Unit, the HighwayMaster nationwide cellular network, the
dispatcher PC and the nationwide landline telephone network. Each switching
complex is capable of processing, storing and transmitting voice and data
transmissions. Voice communications are routed from each Mobile Communication
Unit through the HighwayMaster nationwide cellular network to the appropriate
switching complex. The switching complex automatically completes the call
through the public telephone network to the end user. Voice communications from
the dispatcher or personal calls for the driver are routed through a toll-free
telephone number to the appropriate switching complex, which completes the call
through the appropriate wireless cellular system for the region in which the
truck is operating. Data packets from the host or a Mobile Communication Unit
are stored in the switching complex, then transmitted in cost-effective batches.
Time critical information, as determined by the trucking company, is immediately
transmitted to the receiving party. The switching complex records data from
each transmission, generates a call record and processes the information into
customer billing records. HighwayMaster can increase capacity of the NSC as
needed to meet growing caller demands by increasing the line capacity and number
of modems and controllers.
The Company believes that the NSC has certain advantages over the AT&T
Complex. This facility generally incorporates more advanced architecture and
offers additional functions not available through the AT&T Complex. In
addition, the NSC gives HighwayMaster increased flexibility to add new
features and services without having to negotiate contract modifications with
AT&T and also enhances the Company's ability to monitor operations and
perform diagnostic functions to identify problems.
CALL ROUTING. Each time a Mobile Communication Unit travels into a new MSA
or RSA, it automatically registers with the cellular carrier under contract with
the Company. The cellular carrier routes the message to GTE-TSI or EDS, which
are also under contract with the Company and provides the switching complex with
call delivery information necessary for the switching complex to deliver calls
to the Mobile Communication Unit as it travels through the new MSA or RSA.
Subsequent telephone calls or data transmissions originating from the Mobile
Communication Unit are recognized by the local cellular carrier and screened to
allow call routing only through the switching complex, where additional
screening is conducted.
Before a call originating from a Mobile Communication Unit is received by
the switching complex, the Mobile Communication Unit must establish an encoded
electronic "handshake" with the switching complex. The effective elimination of
roamer fraud is a factor in the Company's ability to contract with local
cellular carriers throughout the country.
NAVIGATION TECHNOLOGY. GPS allows users to identify the location of any
truck at any time via satellite. GPS is operated by the United States
government and broadcasts navigational information from a network of dedicated
satellites orbiting the earth. GPS navigational receivers interpret signals
from
8
multiple satellites to determine the receiver's geographical coordinates,
elevation and velocity. GPS units available for civilian use are generally
accurate within 100 yards. GPS navigational signals can be received
worldwide, without adaptation of the receiver unit to foreign standards.
Management believes that the network of GPS navigational satellites will be
maintained by the United States Defense Department in an operational status
for the foreseeable future. Although stand-alone GPS units are available for
purchase by any consumer at relatively low cost, raw navigational information
is of little use to trucking companies unless the GPS receiver is integrated
with a computer system, such as the Mobile Communication Unit, to record
routes traveled relative to mapped roadways or to transmit position reports
to a central dispatcher.
The Company's use of government-operated GPS satellites differs
substantially from competitors' use of satellites for two-way communications.
GPS satellites send one-way signals to mobile receivers, allowing the mobile
unit to plot its geographical coordinates. GPS satellites are not capable of
two-way communication, and no charges are assessed to users of the GPS services.
For two-way mobile communications, the Company relies exclusively on earth-based
cellular systems. The Company's primary competitors utilize leased or owned
communications satellites for two-way data communications, incurring costs
associated with ownership or leasing of satellite communication capacity.
STRATEGIC SERVICE ALLIANCES OF THE COMPANY
LOCAL CELLULAR CARRIERS. HighwayMaster has established a network for
United States-based trucking operators that offers mobile communication
coverage in 99% of the available cellular coverage in the United States
(which covers approximately 95% of the United States interstate highway
system) and 100% of the A-Side coverage in Canada. The Company has
agreements in place with more than 70 cellular carriers, including all seven
regional Bell operating companies, GTE, and Rogers Cantel, Inc., in more than
720 markets in the United States and Canada. The Company has entered into
contracts with both A-side and B-side carriers in approximately 30% of United
States cellular coverage regions. Management expects its back-up coverage to
continue to increase as more relationships are established. Management
believes that local cellular carriers are motivated to make capacity
available to the Company for various reasons, including (i) increases in
volume of air time usage, (ii) no customer service expense, (iii) the
inability of customers using the HighwayMaster system to switch to another
cellular carrier, (iv) no customer acquisition costs, (v) access to a
national customer base not otherwise available to local cellular carriers,
(vi) use of the HighwayMaster system by long-haul truckers who typically
travel through less dense cellular coverage areas, (vii) use of the
HighwayMaster system by truckers typically during off-peak time periods and
(viii) no expenses associated with fraudulent usage as a result of the
security protection afforded by the HighwayMaster system. Current terms of
contracts between the Company and each of its cellular carriers are generally
for one year, with automatic one-year successive renewal terms unless either
party elects to terminate the contract upon 30-days' notice prior to June 30
of each year. Although the cellular carriers are not obligated to renew the
contracts, management believes these relationships will continue to be in the
best interest of cellular carriers because of the factors discussed above.
AT&T. From 1993 to 1996, the Company and AT&T were parties to the AT&T
Contract pursuant to which they offered certain combined telecommunications
services to their joint customers in the long-haul trucking industry. Under
the AT&T Contract, AT&T agreed to provide certain enhanced call processing,
data management services and long-distance network transport to the joint
customers of the Company and AT&T. The call processing and data management
functions performed by AT&T are housed in the AT&T Complex, which was
developed by AT&T specifically for this application utilizing the Company's
confidential trade secrets. The AT&T Contract was scheduled to expire on
June 29, 1998, unless terminated as of June 29,
9
1996 or June 29, 1997 at the option of AT&T upon 180 days prior written
notice to the Company.
In March 1996, the Company learned that AT&T intended to terminate its
exclusive agreement with HighwayMaster and offer use of the AT&T Complex and
confidential HighwayMaster trade secrets to one or more of the Company's
competitors. In February 1996, the Company filed suit in Federal District Court
against AT&T seeking, among other things, preliminary and permanent injunctive
relief restraining AT&T from using and disclosing HighwayMaster's trade secrets
and proprietary information relating to its mobile communications technology.
See "Legal Proceedings". On March 12, 1996, AT&T notified the Company that it
was terminating the AT&T contract as of June 29, 1996. AT&T indicated that upon
the effective date of cancellation it will no longer honor the prior
contractual restrictions which prohibited it from marketing enhanced services
from the AT&T Complex directly to the long-haul trucking industry or in
conjunction with competitors of HighwayMaster. AT&T did, however, expressly
state its intention to honor continuing contractual obligations with existing
joint customers of it and HighwayMaster until those third party agreements'
current expiration dates. See "Risk Factors -- Status of AT&T Contract; Network
Services Center."
IEX CORP. IEX designed, tested, constructed and serves as facility
manager for the NSC. The NSC constitutes a critical link in providing
certain enhanced call processing, data management services and is necessary
for the Company to receive, store and route voice and data transmissions to
and from its customers. See "-- Infrastructure -- Configuration of the
HighwayMaster System," "--Infrastructure -- Enhanced Service Complex", and
"Risk Factors -- Status of AT&T Contract; Network Services Center."
GTE MOBILECOMM, GTE-TSI AND EDS. GTE MobileComm indirectly provides a
significant amount of cellular coverage for the HighwayMaster system and pays
all cellular carriers in the HighwayMaster system for HighwayMaster, billing
the Company on a monthly basis. The term of the current agreement with GTE
MobileComm expires in March 1999.
GTE-TSI and EDS provide clearinghouse functions to the cellular industry,
creating the data link between a foreign network and a roamer's home cellular
service area, performing credit checking functions and facilitating roamer
incoming call delivery functions. The Company's contract with GTE-TSI covers
certain functions that are critical to the Company's ability to instantly
deliver calls nationwide. It covers an initial term of three years ending
March 14, 1998, with an extension of up to one year at existing rates, at the
Company's option. In addition, the Company is guaranteed the right to renew the
contract for up to 10 one-year periods beyond the primary term, at a reasonable
rate to be determined by GTE-TSI. The agreement provides for mutual exclusivity
by the Company and GTE-TSI with respect to the provision and use of certain
critical call delivery features to provide service to the trucking industry.
The agreement between the Company and EDS involves the provision by EDS of
certain clearinghouse functions in connection with non-wireline cellular
carriers. Fewer data processing functions are conducted by EDS due to the
Company's consolidation of certain common data processing functions with
GTE-TSI. The agreement with EDS expires on July 15, 1998 and is renewable for
subsequent one-year terms unless 60-days' notice is provided prior to the
termination date of the agreement. See "Risk Factors -- Dependence on
Clearinghouse Services."
10
PRODUCT MANUFACTURING AND SUPPLY
Comptronix Corporation assembled the Mobile Communication Units for the
Company pursuant to the Company's specifications until the third quarter of
1996 when it sold substantially all of its assets and assigned its customer
purchase orders to Sanmina Corporation ("Sanmina"). After the sale, Sanmina
has continued production of Units for the Company under the same prices and
terms as its prior arrangement with Comptronix Corporation. The various
components used by Sanmina in the assembly of the Units (including GPS
components and cellular transceivers) are obtained from certain other
manufacturers such as Motorola ("Motorola"). See "Risk Factors -- Product
Supply Arrangements."
MARKETING AND DISTRIBUTION
The Company sells its mobile communication and information system to
fleet buyers primarily through its direct sales force located throughout the
nation. National marketing support for the sales teams includes print
advertising in industry journals, direct mail, radio networks popular with
truckers, industry trade shows and on-site marketing promotions. The Company
sponsors a racing team on the Sports Car Club of America (SCCA) Trans-Am Tour
and entertains trucking company executives in its hospitality trailer at
races. The Company's goal for its sales, service and distribution network is
to establish a high level of responsiveness and convenience.
CUSTOMER SERVICE AND WARRANTY
HighwayMaster operates a 24-hour, seven days a week customer support
service center to handle customer questions and requests. Regional
installation and customer service offices have been established in Atlanta,
Chicago, Dallas, Philadelphia and Salt Lake City. In addition, HighwayMaster
assigns account service representatives to each account of 20 or more trucks
to give personalized training and to assist in configuring the system to
provide the greatest possible economic impact. A one-year limited warranty is
provided to all purchasers of Mobile Communications Units, inclusive of
parts, labor and diagnostic work.
The Company has trained personnel in authorized service centers to perform
installations and warranty of Mobile Communication Units at locations
nationwide, with additional locations to be activated pending training.
Independent contractors in strategic locations throughout the United States
have also been trained to perform installations, charging a fixed rate for
each Mobile Communication Unit installed.
11
CURRENT INSTALLED BASE
The number of Mobile Communication Units installed in customer vehicles has
grown steadily since commercial operations began in September 1993.
As of December 31, 1996, the Company had installed approximately 20,354
Units (including 478 Units installed on a test basis), and had orders to
install an additional 12,584 Units (including approximately 1,333 units to be
installed upon successful completion of test programs). Not included in
these orders are approximately 3,000 Units that may be ordered by Wal*Mart
Stores Inc. in the event of a successful completion of their test currently
underway on 353 Units. The Company's order backlog is based on signed
contracts, which do not specify delivery dates. Accordingly, in some cases
the timing of installation is uncertain, and the Company expects that not all
of the Units on order at December 31, 1996 will necessarily be shipped and
installed within the next twelve months. Since July 1, 1996, the Company has
offered mobile communications services to its customers under the terms of a
service contract which generally commit the Company to provide services for
one year. Customers typically may terminate their contracts during the
initial term only in the event of a material breach by the Company. At the
expiration of the initial term, the contracts continue in effect on a
month-to-month basis unless terminated upon 30-days' notice by either party.
Prior to June 29, 1996, the Company and AT&T offered mobile communications
services to their customers under the terms of joint service contracts, signed
by the Company, AT&T and their joint customers. Customer contracts generally
commit the Company and AT&T to provide services for a one-year term, but in some
cases contracts entered into before July 1994 commit the Company and AT&T to
provide services for a five-year term. Customers typically may terminate their
contracts during the initial term only in the event of a material breach by
either the Company or AT&T. At the expiration of the initial term, the
contracts continue in effect on a month-to-month basis unless terminated upon 30
days notice by either party.
12
AT&T invoices customers directly for all enhanced telecommunications and
cellular services, and the Company and AT&T generally may raise their rates
upon 30 days notice.
ADDITIONAL GROWTH OPPORTUNITIES
AUTOLINK. In the fourth quarter of 1996, HighwayMaster entered into a
strategic business alliance with Prince ("Prince") to develop and provide
AutoLink-Registered Trademark- service for motorists in the United States and
Canada. The basic AutoLink product will provide an intelligent communications
link from the car to an information services complex in order to provide
emergency assistance, roadside assistance and information services to the
occupants of the car, including remote tracking of stolen or missing vehicles.
The intelligent mobile unit in the car is to be equipped with a GPS (global
positioning system) receiver, processor, modem, and a wireless transceiver.
HighwayMaster will be responsible for managing the network, providing software
for the intelligent mobile unit, assisting in managing various information
services providers and billing the customer. Prince and Motorola,
which is slated to manufacture the hardware, are currently involved with product
demonstrations and integration projects with several automakers and production
of the AutoLink product is expected to begin in early 1998.
The AutoLink business alliance is currently in its preliminary stages.
In January 1997, HighwayMaster and Prince entered into a joint development
and marketing agreement defining their respective roles and responsibilities
with respect to the AutoLink system. To date, HighwayMaster has not signed a
definitive agreement with Motorola regarding its role in the business
alliance. At the present time it is contemplated that HighwayMaster will not
be a party to such an agreement, relying instead on Prince to negotiate and
sign a contract with Motorola or another hardware supplier. Various future
events or capabilities must occur or be further developed in order for the
AutoLink alliance to proceed as planned. These include such events as the
exercise by cellular carriers of their option to offer this service to
consumers, the placement of orders by sufficient numbers of automakers, the
testing of final versions of the software and hardware and the production of
the AutoLink product in mass quantities. If any of these or similar events
fail to occur, there can be no assurance that the AutoLink alliance will
proceed on the basis described herein, if at all. In addition, certain other
companies are already offering services similar to AutoLink, including
"OnStar" by General Motors Corporation and "Lincoln Rescue" by Ford Motor
Company, which could create substantial competition for the AutoLink business
alliance.
BURLINGTON CONTRACT. In 1997, HighwayMaster entered into a memorandum of
understanding with Burlington Motor Carriers ("Burlington"), one of the
largest truckload carriers and logistics providers in North America, which
contemplates the installation of 2,000 Mobile Communication Units in
Burlington's fleet of long-haul trucks. As part of
13
the transaction, the Company would purchase exclusive ownership rights to
Burlington's proprietary fleet operating and management information software
and assume the operation of its data center and computer systems. If the
transactions with Burlington are completed, HighwayMaster intends to add
capacity to the Burlington data center in order to provide a broad range of
data processing services to other trucking companies which would essentially
replace such companies' existing management information systems department
with services, software and hardware to be provided by HighwayMaster. Added
capacity would enable HighwayMaster to use the Burlington software and data
center in conjunction with the HighwayMaster mobile communications system to
offer its customers levels of integration not previously available in the
trucking industry. HighwayMaster is currently negotiating the terms of a
definitive agreement with Burlington, and there can be no assurance that such
agreement will be reached by the parties on the terms described herein, if at
all. HighwayMaster is not currently providing these services, and there can
be no assurance that it will be successful in marketing its information
management solutions to other trucking companies.
OTHER OPPORTUNITIES. The Company believes that substantial expansion
opportunities exist within international markets that are served by cellular
service. The Company currently provides certain mobile communications
services to Canadian-based operators who provide a remote call forwarding
line (also known as a foreign exchange line) from their dispatcher PC to the
United States. The Company's ability to provide such services to
owner-operators and operators of small fleets in Canada is limited given that
they cannot easily afford the expense of a remote call forwarding line. There
are approximately 200,000 larger-size trucks operating in Canada, many of
which travel extensively in the United States. Mexico offers another avenue
for expansion if agreements with cellular carriers and installation of
necessary infrastructure interfaces can be established. There are
approximately 250,000 medium and larger sized trucks and buses operating in
Mexico. Management believes that expansion into Europe may prove to be viable
for the Company because trucking companies in Europe face many of the same
demands as companies in the United States and the European cellular
infrastructure is highly developed. However, engineering changes would be
necessary to build a HighwayMaster system adapted to European cellular
technology and multiple languages. A data-only satellite-based competitor of
the Company currently is operating in Europe, Japan and certain other
developed countries.
The most recent Truck Inventory and Use Survey published by the United
States Census Bureau indicated that in 1992 there were 2.6 million medium and
heavy commercial trucks in the United States, presumably operated primarily
by regional and local carriers. Future refinements, which may eventually
provide city street map detail, should allow the HighwayMaster system to be
used by intra-city courier services, local bus companies and police, fire and
ambulance services. In addition to these software enhancements, it will be
necessary for the Company to revise its working relationships with the
affected local cellular carriers before the Company attempts to expand its
customer base to include localized intra-city users and to provide certain
changes to its Company Complex to service a more localized market. See "--
Infrastructure --Enhanced Service Complexes."
In addition to the mobile communications services currently provided by the
Company to the long-haul trucking industry, the Company is developing and
intends to market additional wireless voice and data solutions, network
services, logistics software and wireless computer communications devices to
other freight and field service operations on a local and national basis (some
of which may require modifications to equipment and existing contracts with
cellular carriers and other parties). Management has identified several
potential markets, some of which would require modification to the Mobile
Communication Unit or
14
HighwayMaster system's infrastructure. For example, management believes the
Company could develop an additional market opportunity in the tracking and
dispatching of commercial trailers, which numbered 3.8 million in the United
States in 1992. Trailers would not require two-way voice communication, so a
lower cost version of the Mobile Communication Unit could be developed.
Management also believes interstate bus companies could benefit from the
HighwayMaster system in its present configuration in order to contact drivers
to bypass small town bus stops with no passengers for pickup. The Company
also intends to market the HighwayMaster system to railroads for use in
locomotives and railcars. In addition, management believes that the more than
5 million recreational vehicles in the United States constitute a potential
market for the Company's services.
COMPETITION
Although the Company believes the HighwayMaster system is the most complete
and cost-effective package of mobile communication services currently available
to the trucking industry, there are a number of other companies that offer or
plan to offer some form of two-way mobile communication using a variety of
different technologies which may be eventually used by long-haul truckers. These
companies primarily utilize satellite-based communications technologies, SMR,
and enhanced specialized mobile radio (ESMR), and satellite-based communications
technologies.
CONVENTIONAL SATELLITE COMMUNICATIONS. Satellite communication is
accomplished through transmission of a signal from an earth-based transmitter to
a satellite, which automatically retransmits the signal to an earth-based
receiver. Many communication satellites are geo-stationary, and remain over a
single point over the equator by orbiting the earth in the same direction and at
the same speed as the rotation of the earth. Mobile equipment designed for
satellite communication is equipped with highly specialized rotating antennae
which are continuously directed toward the satellite, and utilize highly complex
data or voice compression systems to minimize demands on satellite capacity.
This type of mobile communication equipment broadcasts over the radio frequency
spectrum, and the FCC regulates and limits the number of satellite
communications systems that may be placed in service.
Satellite communication available to the transportation industry generally
utilizes a single earth station to transmit and receive data via satellite to
and from mobile units installed in trucks. Messages created by truck drivers on
an onboard keyboard can be stored, compressed and transmitted in short bursts.
Although voice communication is theoretically possible for mobile communication
systems that utilize satellite transmissions, to date the limited capacity and
high cost of satellite communication have tended to limit offerings to data-only
services.
Satellite systems currently cover 100% of the continental United States,
and their comprehensive coverage may be perceived by truckers and trucking
companies as an advantage over the cellular system. The Company believes that
any marketing or operational advantage derived from satellite coverage, as
compared to the HighwayMaster system (which covers approximately 95% of the
United States interstate highway system), is mitigated by the fact that
satellite systems are more costly and do not currently offer voice communication
on an economical basis and by the fact that users experience queuing delays
during peak periods between transmission and receipt of messages. In addition,
because geo-stationary satellites stay over the equator, transmission and
receipt of data in North America is sometimes interrupted or rendered impossible
by obstacles on the southern horizon, such as nearby tall buildings or
mountains.
15
At the present time, the Company's primary satellite competitor in the
long-haul trucking market is Qualcomm, Inc. ("Qualcomm"). Qualcomm, which
markets its products and services primarily to large fleets, offers two
international satellite-based communication systems called OmniTRACS, which
provides two-way data messaging and tracking services, and TrailerTRACS,
which provides trailer monitoring. Drivers access and utilize the system
through an onboard keyboard and data display screen. Qualcomm offers or plans
to offer its products and services in certain of the international markets
targeted by the Company, including Canada, Mexico and Europe. Qualcomm
reported that as of January 1997 it had delivered over 200,000 mobile
communication units worldwide. The Company believes that the satellite-based
communication products and services offered by Qualcomm are generally more
expensive than the Company's products and services. However Qualcomm has
recently offered lower prices for quantity purchases and reduced-cost trial
periods in an effort to improve its competitiveness.
At least one other entity offers or plans to offer satellite-based data
communication and tracking services to the long-haul trucking industry.
AMSC, a geo-stationary system which is owned by a consortium of satellite
and communications companies offers a satellite-based system that is similar
to the Qualcomm system in that the mobile communications equipment consists
of a keyboard and data screen mounted in each truck. Recent enhancements
allow dual SMR or satellite communication in a single unit. The AMSC system
will include voice communications services, although projected voice air time
rates are substantially higher than the Company's rates.
MIDDLE AND LOW EARTH ORBIT SATELLITES. In order to maintain a stationary
position over the earth, communication satellites currently in use must maintain
a very high orbit, which requires earth stations to generate relatively high
powered transmissions for communication with the satellite. Certain entities,
including Qualcomm, are participating in the development of MEO and LEO
satellite networks, which are designed to employ multiple satellites in
relatively lower earth orbits, rapidly circling the earth. The lower earth
orbits should facilitate both voice and data communication services and will be
accessible through relatively lower powered transmitters and receivers, allowing
them to be installed in portable communication equipment. In terms of product
and service offerings, MEO and LEO systems can be expected to compete directly
with cellular services, including the HighwayMaster products and services, and
will offer coverage in remote areas and foreign countries currently unserved by
cellular carriers. However, due to the substantial capital investment required
to place these systems in service, the MEO and LEO-based voice call rates are
expected to be substantially higher than the $0.53 per minute rate charged to
HighwayMaster's customers.
SPECIALIZED MOBILE RADIO. SMR has traditionally been used to serve the
needs of local dispatch services such as taxis and couriers, which typically
broadcast short messages to a large number of units. SMR wireless communication
systems rely on high-powered voice or data transmissions among widely-spaced
receiver/transmitter sites within a discrete local or regional area. These
systems generally have lower capacity to support simultaneous transmissions in a
given area than do cellular systems, which transmit and receive radio
communications from numerous closely-spaced cell sites. The radio hardware
currently used to operate
16
the various SMR systems varies widely, making it impossible for a customer to
"roam" into a neighboring region that is served by a carrier with a different
hardware configuration.
ENHANCED SPECIALIZED MOBILE RADIO. Several regional SMR operators are
currently developing and implementing ESMR digital technology to offer
relatively low-cost mobile telephone services, with construction expected to be
completed in several years. One operator in particular, Nextel, Inc., has
announced acquisitions of other ESMR operators to further increase its coverage
area. Many of the ESMR providers intend to rely on proprietary hardware and
technology developed by Motorola. If the various local and regional ESMR
operators develop uniform standards and a coordinated infrastructure, they
eventually will be able to offer region-to-region calling and call delivery
services which could compete with the Company's services.
PAGING SERVICES. At considerably less cost than full two-way mobile
communication, several long-haul truckers and fleet operators have purchased
or leased paging systems that allow a dispatcher to send a message to a
driver. Management believes that pagers are used by trucking companies as a
"temporary fix," since pagers do not offer full-function two-way
communications services and cannot track vehicle locations. Some paging
companies have begun to offer limited time-delayed two-way messaging
capabilities, although initial shortcomings in coverage, voice service and
tracking capabilities are likely to limit their use in the long-haul trucking
market.
TELECOMMUNICATIONS ACT OF 1996. The Telecommunications Act of 1996 (the
"Telecommunications Act") encourages competition in virtually every arena of
communications and eliminates many regulatory barriers to new competitors. See
"Risk Factors -- Uncertainty of Government Regulation". It is unknown at this
time what effect this legislation will have on the Company's ability to compete
in the marketplace.
PATENTS AND PROPRIETARY TECHNOLOGY
The Company has obtained nine domestic patents and has applied for
additional domestic and foreign patents relating to the Mobile Communication
Units and communications network. In general, the Company's existing patents
relate to certain functions of the HighwayMaster system for locating and
communicating with vehicles utilizing the cellular communications network. The
Company's software is also entitled to certain protections under state trade
secret law and federal copyright law. In connection with the recapitalization,
the Company assumed By-Word Technology, Inc.'s ("By-Word") rights and
obligations under a certain License Agreement, dated as of April 23, 1992,
between By-Word and Voice Control Systems ("VCS"). Pursuant to the License
Agreement, the Company has a license to use VCS' speech recognition technology
in exchange for royalties of $15,000 plus certain per-item fees for each
12-month period. Such royalties may be adjusted based on the current consumer
price index. The term of the contract ends annually in August, and the Company
has an option to renew for successive 12-month periods until the year 2001.
17
REGULATION
The Company's products and services are subject to various regulations
promulgated by the FCC which apply to the wireless communications industry
generally. The Company's Mobile Communication Units must meet certain radio
frequency emission standards and not cause unallowable interference to other
services. The Company has relied on the manufacturer of the cellular
transceiver component of the Mobile Communication Units, which is currently
Motorola, to carry out appropriate testing and regulatory compliance
procedures regarding the radio emissions of the cellular transceiver
component.
The FCC also controls several other aspects of the wireless industry that
affect the Company's ability to provide services. The FCC controls the amount of
radio spectrum available to cellular carriers, which could eventually limit
growth in cellular carrier capacity. Management expects the FCC to expand
capacity available to the cellular industry as it becomes necessary in order to
maintain current levels of service, although there is no assurance that such
expansion will occur.
The Company believes that the nature of its services does not require that
the Company be classified as a common carrier for either wireless or
long-distance regulatory purposes. This conclusion is based on several
alternative regulatory interpretations, such as classification of the Company as
an enhanced services provider or a private network and the reliance on the
Company's long-distance provider to comply with any applicable long-distance
regulatory requirements. However because of the unique structure of the
Company's network and its relationship with existing telecommunications
providers, the Company does not fit clearly into any of the various wireless
regulatory categories established to date. Furthermore, because of ongoing
regulatory change in the wireless arena, the Company is engaging in continual
re-evaluation and examination of laws and regulations applicable to its
operations. If the Company's current interpretation of its regulatory status
proves to be incorrect and it were deemed to be a common carrier, the Company
may be required to offer its services on a non-discriminatory basis and, in
certain states, comply with various other regulatory procedures, including the
filing of informational tariffs. Upcoming regulation of cellular common carriers
may also require equal access by customers to the long-distance provider of
their choice. Although regulations applicable to common carriers would add
certain administrative costs and possible complications in the Company's
relationships with its long-distance provider and cellular carriers, the Company
believes common carrier status would not require the Company to make substantial
changes to its current services. There can be no assurance, however, that any
necessary changes could be accomplished without a material adverse effect on the
Company's results of operations.
Long-distance providers face regulatory schemes similar to cellular
carriers, with greater state involvement in requiring posting of bonds as
security against customer deposits and in other matters. The Company believes
current long-distance regulations apply to the companies providing
long-distance services directly to Company customers, without long-distance
regulatory involvement by the Company.
EMPLOYEES
As of December 31, 1996 the Company employed approximately 295 individuals,
of whom 47 are engaged in engineering and product development, 119 in customer
service, 59 in sales and marketing and 70 in administrative or executive
functions. None of the Company's employees are represented by a labor union and
management considers its relationship with its employees to be generally good.
18
RECENT FINANCING TRANSACTIONS
SBW TRANSACTIONS
On September 27, 1996, the Company (i) sold 1,000 shares of its Series D
Participating Preferred Stock, par value $.01 per share ("Series D Preferred
Stock"), to Southwestern Bell Wireless Holdings, Inc. ("SBW") in exchange for a
payment of $20.0 million in cash and (ii) issued warrants (the "Warrants") to
SBW that initially entitle it to purchase an aggregate of 5,000,000 shares of
common stock, par value $.01 per share ("Common Stock"), of the Company.
The shares of Series D Preferred Stock issued to SBW are initially
convertible into an aggregate of 1,600,000 shares of Common Stock at the option
of SBW. In addition, at such time as SBW and its affiliates obtain certain
Regulatory Relief (as defined herein), all of the outstanding shares of Series D
Preferred Stock will automatically convert into an equal number of shares of
Class B Common Stock, par value $.01 per share ("Class B Common Stock"), of the
Company. The holders of shares of Series D Preferred Stock are entitled to
receive dividends and distributions equal to the dividends and distributions
payable on the number of shares of Common Stock into which such shares are
convertible. Except as required by law and except in connection with the
approval rights granted to the holders of Series D Preferred Stock with respect
to specified transactions, the holders of Series D Preferred Stock are not
entitled to vote on any matters submitted to the stockholders of the Company.
The Warrants entitle SBW to purchase from the Company (i) 3,000,000 shares
of Common Stock at an exercise price of $14.00 per share and (ii) 2,000,000
shares of Common Stock at an exercise price of $18.00 per share, in each case
subject to adjustment to prevent dilution. The Warrants will expire on
September 27, 2001.
RECAPITALIZATION TRANSACTIONS
On September 27, 1996, in conjunction with the transactions consummated
with SBW, the Company entered into a Recapitalization Agreement (the
"Recapitalization Agreement") with the Erin Mills Stockholders (as defined
herein), the Carlyle Stockholders (as defined herein) and certain other
holders of outstanding securities of the Company. Upon the terms and
conditions set forth in the Recapitalization Agreement, (i) the Company
issued an aggregate of 800,000 shares of Common Stock to two Erin Mills
Stockholders in exchange for aggregate cash payments in the amount of $10.0
million, (ii) the Company issued an aggregate of 864,000 shares of Common
Stock to three Erin Mills Stockholders and two other persons in exchange for
the surrender to the Company for cancellation of all outstanding shares of
Series B Preferred Stock, par value $.01 per share, of the Company, (iii) the
Company paid to the Carlyle Stockholders a portion of the accrued and unpaid
interest on certain promissory notes in the aggregate principal amount of
approximately $12.7 million (the "Carlyle Notes") executed in favor of the
Carlyle Stockholders, and (iv) the Company issued an aggregate of 1,018,018
shares of Common Stock in exchange for the surrender of the Carlyle Notes for
cancellation. As used herein, (a) the term "Erin Mills Stockholders" means
Erin Mills International Investment Corporation, The Erin Mills Development
Corporation and The Erin Mills Investment Corporation, (b) the term "Carlyle
Stockholders" means the Clipper Stockholders (as defined below),
Carlyle-HighwayMaster Investors, L.P., Carlyle-HighwayMaster Investors II,
L.P., TC Group, L.L.C., Mark D. Ein, Chase Manhattan Investment Holdings,
Inc., H.M. Rana Investments Limited, Archery Partners, and (c) the term
"Clipper Stockholders" means Clipper Capital Associates, L.P.,
Clipper/Merban, L.P. and Clipper/Merchant Partners, L.P.
19
RISK FACTORS
FORWARD LOOKING STATEMENTS
This Annual Report on Form 10-K ("Form 10-K") contains forward-looking
statements within the meaning of Section 27A of the Securities Act and Section
21E of the Exchange Act that are based upon management's beliefs, as well as
assumptions made by and information currently available to management. When
used in this Form 10-K, the words "anticipate," "believe," "estimate" or
"expect" and similar expressions are intended to identify forward-looking
statements. The Company's actual results could differ materially from those
projected in the forward-looking statements. Factors that could cause or
contribute to such differences include those discussed in this section, as well
as those discussed elsewhere in this Form 10-K or in the documents incorporated
herein by reference.
LIMITED OPERATING HISTORY; HISTORY OF LOSSES
The Company commenced its operations in April 1992 and has a limited
operating history. The Company began offering the HighwayMaster system on a
commercial basis in September 1993. Since its inception, the Company has
experienced significant operating losses. In particular, the Company
experienced operating losses of $19.1 million, $22.2 million and $28.6 million
in the years ended December 31, 1994, 1995 and 1996, respectively. As of
December 31, 1996, the Company had an accumulated deficit of $109.9 million. In
order to achieve a profitable level of operations, the Company must
significantly increase its installed base of Mobile Communication Units and
generate greater service and air time revenues. Although the Company's
installed base of Mobile Communications Units has increased significantly in
each of the past three years, the number of Units sold by the Company decreased
from 9,322 in the year ended December 31, 1995 to 7,038 in the year ended
December 31, 1996, as a result of various factors, including concerns on the
part of prospective customers relating to the Company's financial condition
during the first three quarters of 1996 and uncertainties related to the
termination effective June 29, 1996 of the Company's contract with AT&T relating
to the design and operation of the AT&T Complex. The likelihood of the
long-term success of the Company must be considered in light of the expenses,
difficulties and delays frequently encountered in connection with the early
stages of the development and marketing of telecommunications products and
services, as well as the competitive environment in which the Company operates
and the other risks and uncertainties discussed in this section. There can be no
assurance that the Company's future operations will generate operating or net
income.
STATUS OF AT&T CONTRACT; NETWORK SERVICES CENTER
From 1993 to 1996, the Company and AT&T were parties to the AT&T Contract
pursuant to which AT&T provided enhanced call processing and data management
services and long-distance network transport for the Company and its customers
through the AT&T Complex. AT&T terminated the AT&T Contract effective as of
June 29, 1996. However, AT&T continues to provide services for existing
customers of the Company and AT&T without a formal contract in fulfillment of
AT&T's obligations under existing service agreements entered into with each
customer. At the present time, a substantial majority of the Company's
customers are receiving services provided through the AT&T Complex. In order
for the Company and AT&T to continue to provide services to these customers, it
will be necessary for them to cooperate with respect to a number of operational
and other matters. There can be no assurance that the Company and AT&T will
cooperate with respect to these matters or that AT&T's failure or refusal to
cooperate on terms
20
acceptable to the Company would not have a material adverse effect on the
Company's business, financial condition or results of operations.
In the third quarter of 1996, the Company began commercial service with
its own switching complex, the NSC, which was designed and constructed for
the Company by IEX. For new customers commencing service since July 1, 1996,
the NSC has fully replaced the AT&T Complex. The future growth of the
Company's business will depend to a significant on its ability to continue to
expand the NSC and to resolve technical and operational issues which may
arise from time to time in connection with the operation, management and
expansion of a switching complex of this complexity.
OPERATIONAL DIFFICULTIES
Under the terms of the AT&T Contract, AT&T was obligated to maintain the
AT&T Complex in operational status. However, from inception of service, the
AT&T Complex experienced various service impairments, including occasional
"downtime" periods ranging from several minutes to several hours in duration.
In general, although in recent months AT&T has made modifications to the AT&T
Complex which are intended to improve its performance, there can be no
assurance that the AT&T Complex will not experience performance problems in
the future.
As noted above, the NSC began commercial service in the third quarter of
1996. Other than the normal operational issues encountered in placing in
service a complex facility of this type, the addition of new customers to the
NSC has been progressing in an orderly fashion. However, there also can be
no assurance that the NSC will not experience performance and other
operational problems in the future.
Any significant performance or other operational problems affecting
either the AT&T Complex or the NSC could have a material adverse effect on
the Company's business, financial condition and results of operations.
AT&T LITIGATION
On February 16, 1996, the Company filed a lawsuit against AT&T in the
U.S. District Court, Northern District of Texas, Dallas Division. The
Company is seeking preliminary and permanent injunctive relief restraining
AT&T from using and disclosing the Company's trade secrets and proprietary
information relating to its mobile communications technology. In July 1996,
AT&T filed counterclaims essentially mirroring the Company's claims.
In September and October 1996, both the Company and AT&T amended their
pleadings and filed additional claims against each other related to breach of
contract and various tortious activities. AT&T seeks an injunction, a
declaratory judgment defining the parties' intellectual property rights,
actual and punitive damages and attorneys' fees in connection with its
counterclaims. The Company seeks a declaration that the patents issued to
AT&T using the Company's proprietary information are invalid or,
alternatively, should be transferred from AT&T to the Company. The Company
also brought claims against AT&T pursuant to the Texas Deceptive Trade
Practices Act ("DTPA") and seeks actual, punitive and treble damages and
attorneys' fees in connection with its claims. Additionally, the Company's
amended complaint added another defendant, Lucent Technologies, Inc.
("Lucent"), to which AT&T transferred certain of the patents at issue in the
lawsuit.
21
In November 1996, AT&T filed a partial motion to dismiss the Company's
DTPA claims, various tort claims and the patent invalidity charges.
Additionally, in November 1996, Lucent filed a motion to dismiss all of the
Company's claims against Lucent. In December 1996, the Company filed a
response to AT&T's partial motion to dismiss and a response to Lucent's
motion to dismiss. A hearing on the parties' motions is currently scheduled
for May 1997.
DEPENDENCE ON CELLULAR INFRASTRUCTURE
The Company utilizes the existing cellular telephone infrastructure, with
certain enhancements, as the wireless segment of the HighwayMaster
communications link. Current terms of contracts between the Company and each
of its cellular carriers are generally for one year, with automatic one-year
successive renewal terms, unless either party elects to terminate the
contract upon 30-days' notice prior to June 30 of each year. In order to
continue to provide wireless communications to its customers, the Company
must continue to renew its agreements with individual cellular carriers. If
the Company is unable to renew or replace its contracts with cellular
carriers at competitive rates, the Company may be forced to absorb the costs
of increased cellular air time rates, or increase rates to customers where
allowed by individual contracts. In general, a failure on the part of the
Company to renew or replace its contracts with cellular carriers on favorable
terms could have a material adverse effect on its business, financial
condition and results of operations.
The HighwayMaster system relies on the continued interconnectivity of its
cellular service providers. Currently, cellular carriers utilize analog
technology, although an increasing number of carriers have upgraded or are
in the process of upgrading their service to digital technology. If in the
future cellular carriers do not continue to offer service to analog
telephones, the Company would be required to dedicate financial resources and
engineering staff to integrate a digital cellular telephone transceiver into
the Mobile Communication Unit. Furthermore, if substantial changes to the
methods of interconnection utilized by cellular carriers occur, such as a
discontinuance of the existing out-of-area call clearing system or a decision
by cellular carriers to eliminate analog service and employ several diverse
digital technologies rather than a common digital technology, the Company may
be required to undertake costly system redesign or may encounter difficulty
in providing seamless nationwide coverage.
DEPENDENCE ON CLEARINGHOUSE SERVICES
GTE-TSI performs certain "clearinghouse" functions for the Company, which
include, among other things, validation and verification of roaming numbers
and provision of call delivery information. The Company's agreement with
GTE-TSI is effective through March 14, 1998, with certain renewal options by
the Company after that date. The agreement provides for mutual exclusivity in
the trucking industry for the initial three-year term with respect to certain
key call delivery features. The agreement with GTE-TSI may be renewed by the
Company for up to 10 additional one-year terms after expiration at a
reasonable price to be determined solely by GTE-TSI. There can be no
assurance that the renewal price determined by GTE-TSI after the initial
three-year term will be acceptable to the Company.
A subsidiary of EDS also performs certain "clearinghouse" functions for
the Company which include, among other things, the validation of roaming
numbers and routing of call delivery information. The agreement with EDS
expires on July 15, 1998 with successive automatic renewal terms of one year
thereafter, unless terminated at the option of either party upon 60-days'
notice prior to any expiration date. There can be no assurance that the EDS
agreement will be renewed upon expiration.
22
If the Company is unable to renew its agreement with GTE-TSI or, to a
lesser extent, EDS, the Company may be required to make substantial and
costly design changes to the HighwayMaster system in order to ensure
continued availability of the Company's services. Because of the unique
position of GTE-TSI and EDS as industry-wide clearinghouses and the
difficulty associated with their replacement, there can be no assurance that
full functionality of the system could be maintained if such a redesign were
necessitated.
PRODUCT SUPPLY ARRANGEMENTS
Since the fourth quarter of 1996, Sanmina has manufactured Mobile
Communications Units in accordance with specifications provided by the
Company. Although all of the Units sold by the Company are currently being
produced by Sanmina, the Company is continuing to evaluate its options with
respect to the production of Units. There can be no assurance that
HighwayMaster will be able to continue its current supply arrangements with
Sanmina or establish alternative supply arrangements with other third parties
without experiencing technical, logistical or other difficulties. The
failure to establish or maintain satisfactory arrangements for the production
of Units could have a material adverse effect on the Company's business,
financial condition and results of operations.
LACK OF CAPITALIZATION AND OTHER RESOURCES REQUIRED FOR GROWTH
The expansion of the Company's business over the past few years has
placed a significant strain on its management, operational and financial
resources. The Company's ability to achieve future growth is dependent, among
other things, upon its ability to raise sufficient capital to fund the
expansion of its business. Based on its projected operating results, the
Company believes that it is likely that it will need to secure additional
equity or debt financing during 1997 in order to fund its currently
anticipated operating needs and capital expenditure requirements. In
addition, the Company must maintain its inventories of Mobile Communications
Units at appropriate levels and must expand the capacity and increase the
efficiency of its sales, distribution and installation network. If the
Company is not able to obtain adequate financial resources or otherwise
manage growth effectively, the Company's business, financial condition and
results of operation may be adversely affected.
AMENDED STOCKHOLDERS' AGREEMENT; CONTROL OF THE COMPANY
The Company, SBW, the Erin Mills Stockholders, the Carlyle Stockholders,
the By-Word Stockholders and certain other persons are parties to an Amended
and Restated Stockholders' Agreement, dated as of September 27, 1996 (the
"Amended Stockholders' Agreement") which amends and restates in its entirety
the Stockholders' Agreement dated February 4, 1994. The parties to the
Amended Stockholders' Agreement beneficially own an aggregate of 19,625,129
shares of Common Stock, representing approximately 79.0% of the shares
outstanding as of December 31, 1996.
The Amended Stockholders' Agreement contains provisions relating to,
among other things, the election of members of the Company's Board of
Directors. In particular, this agreement provides that the parties will take
all action (including the voting of shares of Common Stock owned by them)
necessary to ensure that the Board of Directors of the Company consists of
(i) two directors designated by the Erin Mills Stockholders, (ii) one
director designated by the Carlyle Stockholders, (iii) two directors
designated by the By-Word Stockholders and (iv) two independent directors
(except that the addition of a second independent director to the Board of
Directors need not occur until the date of the 1997 annual meeting of the
stockholders of the Company). Prior to the receipt of regulatory relief
permitting SBW to
23
provide landline, interLATA long-distance service pursuant to the
Communications Act of 1934, as amended by the Telecommunications Act
("Regulatory Relief"), SBW will not be entitled to designate a director, but
will have the right to designate a non-voting delegate who will attend all
meetings of the Board of Directors and receive all materials distributed to
directors of the Company. In addition, if SBW and its affiliates
beneficially own 20% or more of the outstanding Common Stock on a fully
diluted basis (including shares issuable upon conversion or exercise of
outstanding options, warrants or rights, but excluding shares issuable upon
the conversion or exercise of the Warrants or of options, warrants or rights
issued by any person other than the Company), SBW will under certain
circumstances be entitled to designate a second member of the Board of
Directors.
As a result of the provisions of the Amended Stockholders' Agreement and
the ownership of Common Stock by the stockholders of the Company who are
parties thereto, these stockholders, if they choose to act together, have the
ability to control the management and policies of the Company.
COMMON STOCK AVAILABLE FOR PURCHASE BY SBW
Pursuant to a Purchase Agreement dated September 27, 1996 (the "Purchase
Agreement"), and certain agreements and instruments related thereto, the
Company issued to SBW (i) 1,000 shares of Series D Preferred Stock and (ii) the
Warrants. The shares of Series D Preferred Stock issued to SBW are initially
convertible into an aggregate of 1,600,000 shares of Common Stock at the
option of SBW. The Warrants generally entitle SBW to purchase from the
Company (i) 3,000,000 shares of Common Stock at an exercise price of $14.00
per share and (ii) 2,000,000 shares of Common Stock at an exercise price of
$18.00 per share, in each case subject to adjustment to prevent dilution. If
all of the shares of Series D Preferred Stock were converted into Common
Stock and all the Warrants were exercised by SBW, SBW would hold
approximately 26.6% of the outstanding shares of Common Stock (based on the
total number of shares of Common Stock outstanding as of December 31, 1996).
See "Recent Financing Transactions -- SBW Transactions."
CERTAIN RIGHTS OF SBW
The Purchase Agreement and certain of the other agreements and
instruments related thereto afford various rights to SBW that are not
available to the other stockholders of the Company. For example, the Company
has granted to SBW, as the holder of Series D Preferred Stock, the right to
approve certain actions on the part of the Company, including (i) mergers or
consolidations involving the Company that require stockholder approval under
the General Corporation Law of the State of Delaware (the "DGCL"), (ii) sales
of all or substantially all of the assets of the Company that require
stockholder approval under the DGCL, (iii) amendments to the Company's
Certificate of Incorporation, (iv) the dissolution of the Company, (v) the
adoption, implementation or acceptance by the Company of certain
anti-takeover provisions, (vi) the issuance by the Company of equity
securities, including securities convertible into equity securities (subject
to specified exceptions), and the incurrence by the Company of debt
obligations in an amount exceeding $5.0 million in any year, (vii) the
Company entering into any line of business other than it existing line of
business or entering into joint ventures, partnerships or similar
arrangements which would require expenditures of more than $3.0 million,
(viii) the disposition by the Company in any 12-month period of assets (other
than assets sold in the ordinary course of business) of which the fair market
value exceeds $3.0 million and (ix) any amendment, alteration or repeal of
the terms of the Series D Preferred Stock. See "Recent Financing
Transactions -- SBW Transactions."
24
COMPETITION AND TECHNOLOGICAL CHANGE
The Company faces competition in the long-haul trucking industry from
various other suppliers of mobile communications services. Currently, the
Company's primary competitors in the long-haul trucking market offer
data-only, two-way communications via satellite. Other companies that compete
or are planning to compete with the Company in its target market also offer
or plan to offer satellite-based voice and data communication systems. The
primary advantage of satellite-based communication over the Company's
cellular-based system is that satellite coverage is available in certain
remote areas and foreign countries that have not developed cellular networks,
enabling data transmissions in areas not served by cellular systems.
Certain technological advances and future product offerings could
substantially change the nature of the Company's competition. For example,
geo-stationary orbit, MEO and LEO satellite systems are expected to offer
voice and data communications that could compete directly with existing
cellular-based services, including the HighwayMaster system. One of the
Company's current competitors, AMSC, launched a geo-stationary satellite in
early April 1995 and offers both data and voice communications to the
long-haul trucking industry. In addition, networks of MEO and LEO satellites
are in the early implementation stage, funded by consortiums of companies
that intend to provide worldwide voice communication capability. A useable
portion of one or more of such networks is projected to be in place by the
year 2000. The addition of voice capability to satellite systems may reduce
the Company's competitive advantage over certain of its competitors, and it
is possible that satellite owners may, at least on a temporary basis, offer
rates at or below the Company's rates.
Several conventional mobile radio and SMR providers are expanding
transmission coverage areas and are planning technological enhancements to
offer digital services that could be competitive with current cellular
services, including the HighwayMaster system. If SMR providers expand
coverage and establish a significant degree of uniformity, through uniform
use of proprietary digital technology or otherwise, SMR providers could
eventually develop an integrated network to allow nationwide roaming. SMR
operators also intend to offer dispatching services, data transmission and
other services through their expanding networks that could compete with the
Company's services.
Although current nationwide autonomous-registration incoming call
delivery systems offered by the cellular industry are costly and are
unavailable in some rural areas, the cellular industry may eventually develop
a uniform standard for incoming call delivery at a reduced cost. If
inexpensive autonomous-registration incoming call delivery systems for
cellular roamers become standard, this feature of the Company's services may
provide less of a competitive advantage. Moreover, if cellular carriers were
to develop additional standard protocol and hardware for inexpensive data
transmission and fraud control or if the cost of roaming services were to
significantly decline, other competitive advantages of the Company's system
would be reduced.
In general, technology in the wireless communications industry is in a
rapid and continuing state of change as new technologies and enhancements to
existing technologies continue to be introduced. The Company believes that
its future success will depend upon its ability to develop and market
products and services that meet changing customer needs and which anticipate
or respond to technological changes on a timely and cost-effective basis.
There can be no assurance that the Company will be able to keep pace with
technological developments.
25
Certain of the Company's competitors have significantly greater name
recognition, financial and other resources than the Company. Among other
things, it appears that certain of these resources have been or are being
used by competitors of the Company to subsidize initial hardware purchases
and provide extended periods of free services in an attempt to achieve rapid
penetration of the Company's target market.
BILLING DISCREPANCIES
The Company's ability to operate its business on a profitable basis will
depend in part upon whether it is able to monitor and control effectively the
direct costs of providing services to its customers, including cellular air
time charges. The Company must periodically monitor and reconcile the charges
billed to the Company by GTE MobileComm on behalf of cellular carriers and
the charges billed by AT&T to customers serviced through the AT&T Complex and
by the Company to customers served through the NSC in order to obtain the
appropriate amount of credit for any air time usage charges billed to the
Company that represent calls dropped by cellular carriers or blocked,
incorrectly switched or dropped by the AT&T Complex. In addition, the Company
incurs certain costs for air time usage that are not billable to customers
under current billing practices. There can be no assurance that the Company
will not incur significant costs in the future in connection with billing
discrepancies or the reconciliation process or that the costs will not have
an adverse impact on the Company's ability to achieve and maintain
satisfactory profit margins.
UNCERTAINTY REGARDING PATENTS AND PROPRIETARY RIGHTS
The Company holds nine domestic patents and has applied for several
additional domestic and foreign patents relating to its Mobile Communication
Units and communications network. In general, the Company's existing patents
relate to certain methods and apparatus of the HighwayMaster system for
locating and communicating with vehicles utilizing the cellular
communications network. The Company's software is also entitled to certain
protections under state trade secret law and federal copyright law. The
patents and other intellectual property rights of the Company cannot prevent
competitors from developing competing systems using other land-based wireless
communications systems or using the cellular system through a different
method. While the Company believes that the nature and scope of the
HighwayMaster communications system, including the Company's strategic
business and technological relationships, would be difficult for a competitor
to duplicate, there can be no assurance that a competitor would consider
these hindrances to be material in light of the market potential. A
competitor could invest time and resources in an attempt to duplicate certain
key features of the Company's products and services, which could result in
competition and have a material adverse effect on the Company's business.
Several of the Company's competitors have obtained and can be expected to
obtain patents that cover products or services directly or indirectly related
to those offered by the Company. There can be no assurance that the Company
is aware of all patents containing claims that may pose a risk of
infringement by its products or services. In addition, patent applications in
the United States are confidential until a patent is issued and, accordingly,
the Company cannot evaluate the extent to which its products or services may
infringe on future patent rights held by others. In general, if it were
determined that any of the Company's products, services or planned
enhancements infringed valid patent rights held by others, the Company would
be required to cease marketing such products or services or developing such
enhancements, to obtain licenses to develop and market such products,
services or enhancements from the holders of the patents or to redesign such
products or services to avoid infringement. There can be no assurance that
the Company would be able to obtain licenses on commercially reasonable
terms, or that it would be able to design and incorporate alternative
technologies, without a material adverse effect on its business.
26
AT&T has filed applications for patent protection with respect to certain
functions of the AT&T Complex and has obtained certain patents which appear
to overlap with patents issued to the Company, two of which have been
assigned by AT&T to Lucent. In addition, AT&T has asserted that it has
certain other proprietary rights relating to the AT&T Complex. In connection
with the pending litigation between the Company and AT&T, neither AT&T nor
Lucent has asserted any patent claims against the Company. However, there
can be no assurance that they will not attempt to do so in the future. In
connection with the operation of the NSC or other future activities of the
Company, there can be no assurance that the Company (if it were required to
do so pursuant to patent or other purported rights of AT&T) would be able to
obtain licenses from AT&T on commercially reasonable terms, or that it would
be able to design and incorporate alternative technologies, without a
material adverse effect on its business, financial condition and results of
operations. The Company has filed a lawsuit against AT&T and Lucent with
respect to these proprietary rights and AT&T has countersued the Company.
See "-- AT&T Litigation."
UNCERTAINTY OF GOVERNMENT REGULATION
COMMON CARRIER STATUS. The Company believes that the nature of its
services does not require that the Company be classified as a common carrier
for either wireless or long-distance regulatory purposes. However, because of
the unique structure of the Company network and its relationship with
existing telecommunications providers, the Company does not fit clearly into
any of the various wireless regulatory categories established to date.
Furthermore, the wireless telecommunications industry is currently
experiencing significant regulatory changes, which may require a
re-examination of laws and regulations applicable to the Company's
operations. If the Company's interpretation of its regulatory status proves
to be incorrect and it is deemed to be a common carrier, the Company may be
required to offer its services on a non-discriminatory basis and, in certain
states, comply with various other regulatory procedures, including the filing
of informational tariffs. Upcoming regulation of cellular common carriers may
also require equal access by customers to the long-distance provider of their
choice. Although regulations applicable to common carriers would add certain
administrative costs and possible complications in the Company's
relationships with its long-distance provider and cellular carriers, the
Company believes common carrier status would not require the Company to make
substantial changes to its current services. There can be no assurance,
however, that any necessary changes could be accomplished without a material
adverse effect on the Company's business.
LONG-DISTANCE SERVICES. Long-distance providers face regulatory
provisions similar to cellular carriers, with greater state involvement in
requiring the posting of bonds as security against customer deposits and in
other matters. The Company believes current long-distance regulations apply
to the companies providing long-distance services directly to Company
customers, without long-distance regulatory involvement by the Company. There
can be no assurance, however, that the Company will not become subject to
regulations as a long-distance carrier and that such regulation would not
have a material adverse effect on the Company's business.
TELECOMMUNICATIONS ACT. In February 1996, the Telecommunications Act
was signed into law. This is the most comprehensive set of telecommunications
laws to be enacted since the original Communications Act of 1934 was passed.
The Telecommunications Act encourages competition in virtually every arena of
communications and eliminates many regulatory barriers to new competitors by,
in some instances, preempting state and local restrictions. The
Telecommunications Act requires the FCC to extensively revise many of the
rules and regulations under which the telecommunications industry has been
operating. The FCC has estimated that it may need to implement as many as 80
different proceedings in
27
order to accomplish this task. At this time, it is unclear how the
Telecommunications Act will affect the activities of the Company, its
strategic business relationships with other communications companies, or its
customers. There can be no assurance that the relaxing of barriers to
competition in the industry will not hinder the Company's growth and
viability in the marketplace.
DEPENDENCE ON KEY PERSONNEL
The Company is dependent on the efforts of William C. Kennedy, Jr.,
Chairman of the Board, William C. Saunders, President and Chief Executive
Officer, Gordon C. Quick, Chief Operating Officer, and a group of employees
with technical knowledge regarding the Company's systems. The loss of
services of one or more of these individuals could materially and adversely
affect the business of the Company and its future prospects. The Company has
employment agreements with Messrs. Kennedy, Saunders and Quick. Each of
Messrs. Kennedy and Saunders may terminate such agreements upon one-year's
written notice. Mr. Quick may terminate his agreement at any time upon
90-days' written notice. The Company does not maintain key man life insurance
on any of the Company's officers or employees. The Company's future success
will also depend on its ability to attract and retain additional management
and technical personnel required in connection with the growth and
development of its business.
PRODUCT LIABILITY
Testing, manufacturing and use of the Company's products entail the risk
of product liability. Although management believes the Mobile Communication
Unit offers safety advantages over conventional cellular telephones, it is
possible that operation of the product may give rise to product liability
claims. In addition, as the Company expands its business to include the
provision of automotive security and similar systems such as those
contemplated by the AutoLink business alliance, the larger number of
consumers utilizing the Company's products may expose the Company to an
increased risk of litigation regarding various safety, performance and other
matters. Product liability claims or recalls which exceed policy limits
applicable to the Company's liability insurance or which are excluded from
the policy coverage could have a material adverse effect on the business or
financial condition of the Company.
DIVIDEND POLICY
The Company has never paid cash dividends on its Common Stock and has no
plans to do so in the foreseeable future. The Company intends to retain
earnings, if any, to develop and expand its business.
SHARES ELIGIBLE FOR FUTURE SALE
The Company had 24,838,530 shares of Common Stock outstanding as of
December 31, 1996. Approximately 4,134,848 shares of Common Stock are freely
tradable by persons other than "affiliates" of the Company, as that term is
defined under the Securities Act, without restrictions or further
registration under the Securities Act. The remaining shares are deemed
"restricted securities" within the meaning of the Securities Act as a result
of the issuance thereof in private transactions prior to the Company's
initial public offering in June 1995. These "restricted securities" may be
publicly sold only if registered under the Securities Act or sold in
accordance with an applicable exemption from registration, such as those
provided by Rules 144 and 144A promulgated under the Securities Act.
28
In addition, the Company has granted certain registration rights under
the Amended Stockholders' Agreement. Among other things, the Company has
agreed to register an aggregate of 1,818,018 shares of Common Stock held by
the Erin Mills Stockholders and the Carlyle Stockholders for sale during the
three-month periods beginning March 31, 1997 and June 30, 1997. In addition,
the Company has granted certain demand and piggyback registration rights to
the Erin Mills Stockholders, the Carlyle Stockholders, SBW and certain other
stockholders.
The sale of a substantial number of shares of Common Stock or the
availability of a substantial number of shares for sale may adversely affect
the market price of the Common Stock and could impair the Company's ability
to raise additional capital through the sale of its equity securities.
VOLATILITY OF STOCK PRICE
Historically, the market prices for securities of emerging companies in
the telecommunications industry have been highly volatile. Future
announcements concerning the Company or its competitors, including results of
technological innovations, new commercial products, government regulations,
proprietary rights or product or patent litigation may have a significant
impact on the market price of the Company's Common Stock. The Company's
stock price has been highly volatile in recent periods.
ITEM 2. PROPERTIES
REAL PROPERTY AND LEASES
The Company does not own any real property. The Company leases
approximately 54,323 square feet of office space for its corporate
headquarters in Dallas, Texas, at an average price of $14.60 per square foot
per year, pursuant to a short-term lease agreement. The Company leases a
small amount of commercial office space for each of its five regional
customer service offices.
ITEM 3. LEGAL PROCEEDINGS
AT&T LITIGATION. As previously reported, on February 16, 1996, the
Company filed a lawsuit against AT&T in the U.S. District Court, Northern
District of Texas, Dallas Division. The Company is seeking preliminary and
permanent injunctive relief restraining AT&T from using and disclosing the
Company's trade secrets and proprietary information relating to its mobile
communications technology. In July 1996, AT&T filed counterclaims
essentially mirroring the Company's claims.
In September and October 1996, both the Company and AT&T amended their
pleadings and filed additional claims against each other related to breach of
contract and various tortious activities. AT&T seeks an injunction, a
declaratory judgment defining the parties' intellectual property rights,
actual and punitive damages and attorneys' fees in connection with its
counterclaims. The Company seeks a declaration that the patents issued to
AT&T using the Company's proprietary information are invalid or alternatively
should be transferred from AT&T to the Company. The Company also brought
DTPA claims against AT&T and seeks actual, punitive and treble damages and
attorneys' fees in connection with its claims. Additionally, the Company's
amended complaint added Lucent as an additional defendant, to which AT&T
transferred certain of the patents at issue in the lawsuit.
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In November 1996, AT&T filed a partial motion to dismiss the Company's
DTPA claims, various tort claims and the patent invalidity charges.
Additionally, in November, 1996, Lucent filed a motion to dismiss all of the
Company's claims against Lucent. In December 1996, the Company filed a
response to AT&T's partial motion to dismiss and a response to Lucent's
motion to dismiss. A hearing on the parties' motions is currently scheduled
for May 1997.
The Company and AT&T were parties to the AT&T Contract under which AT&T
provides enhanced call processing, data management services and long-distance
network transport services through the AT&T Complex. The AT&T Contract was
terminated effective June 29, 1996. AT&T continues to provide services for
the Company without a formal contract pursuant to AT&T's obligations with
respect to its existing service agreements with customers, although there can
be no assurance that AT&T will continue to do so.
OTHER LITIGATION. The Company is involved in other litigation matters
that normally arise in the course of conducting its business, although these
matters are not considered to be of a material nature nor would they have a
material effect on the business activities or continued operations of the
Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the
fourth quarter of fiscal year 1996.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock was initially offered to the public on June
22, 1995, and is quoted on the Nasdaq National Market ("Nasdaq NMS") under
the symbol "HWYM". Prior to that offering there was no public market for the
Common Stock of the Company. The following table sets forth the range of
high and low trading prices on Nasdaq NMS for the Common Stock for the
periods indicated, as reported by Nasdaq NMS. Such pri