Back to GetFilings.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER: 000-27707
AETHER SYSTEMS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 52-2186634
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
11460 CRONRIDGE DR. OWINGS MILLS, MD 21117
(Address of principal executive offices) (Zip Code)
(Registrant's telephone number, including area code): (410) 654-6400
SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE.
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
COMMON STOCK, PAR VALUE $.01
CONVERTIBLE SUBORDINATED NOTES DUE 2005
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark 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 the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of the Form 10-K or any
amendment of this Form 10-K. [ ]
The aggregate market value of the voting stock held by nonaffiliates of the
registrant as of March 8, was $213,545,572.
As of March 8, 2002, 42,036,530 shares of the Registrant's common stock, $.01
par value per share, were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Proxy Statement for the 2002 Annual Meeting of the Registrant which will be
filed with the Commission within 120 days after the close of the fiscal year and
is incorporated by reference into Part III.
1
AETHER SYSTEMS, INC.
ANNUAL REPORT ON FORM 10-K
FOR THE YEAR ENDED DECEMBER 31, 2001
INDEX
PAGE
----
PART I
Item 1 Business.................................................... 3
Item 2 Properties.................................................. 8
Item 3 Legal Proceedings........................................... 8
Item 4 Submission of Matters to a Vote of Security Holders......... 9
PART II
Item 5 Market for the Company's Common Equity and Related Security
Holder Matters.............................................. 10
Item 6 Selected Financial Data..................................... 10
Item 7 Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... 13
Item 7A Quantitative and Qualitative Disclosures About Market
Risk........................................................ 32
Item 8 Financial Statements and Supplementary Data................. 32
Item 9 Change In and Disagreements with Accountants on Accounting
and Financial Disclosure.................................... 32
PART III
Item 10 Directors and Executive Officers of the Registrant.......... 33
Item 11 Executive Compensation...................................... 33
Item 12 Security Ownership of Certain Beneficial Owners and
Management.................................................. 33
Item 13 Certain Relationships and Related Transactions.............. 33
PART IV
Item 14 Exhibits, Financial Statement Schedules and Reports on Form
8-K......................................................... 34
THIS ANNUAL REPORT ON FORM 10-K CONTAINS FORWARD-LOOKING STATEMENTS THAT INVOLVE
RISKS AND UNCERTAINTIES. WHEN USED HEREIN, THE WORDS ANTICIPATE, BELIEVE,
ESTIMATE, INTEND, MAY, WILL, AND EXPECT AND SIMILAR EXPRESSIONS AS THEY RELATE
TO AETHER SYSTEMS, INC. (AETHER OR COMPANY) OR ITS MANAGEMENT ARE INTENDED TO
IDENTIFY SUCH FORWARD-LOOKING STATEMENTS. THE COMPANY'S ACTUAL RESULTS,
PERFORMANCE OR ACHIEVEMENTS COULD DIFFER MATERIALLY FROM THE RESULTS EXPRESSED
IN, OR IMPLIED BY, THESE FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE OR
2
CONTRIBUTE TO SUCH DIFFERENCES INCLUDE THOSE DISCUSSED IN MANAGEMENT'S
DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS AND
BUSINESS. AETHER UNDERTAKES NO OBLIGATION TO UPDATE OR REVISE ANY
FORWARD-LOOKING STATEMENTS, WHETHER AS A RESULT OF NEW INFORMATION, FUTURE
EVENTS OR OTHERWISE.
PART I
ITEM 1. BUSINESS
OVERVIEW
We provide the services, software and support necessary for businesses
to extend existing and future applications from the desktop to almost all
currently available personal digital assistant (PDA) operating systems and their
respective wireless devices. Through the Aether Fusion(TM) approach, we develop,
deploy and manage wireless solutions built on industry standard technology and
backed by our expertise in wireless hosting, software and services.
THE AETHER SOLUTION
We believe that businesses, seeking greater productivity and
efficiencies, increasingly seek to give their workforces mobile and wireless
access to corporate applications, company data, and internal e-mail. Remote
access can be achieved either through continuous real-time communications, or by
periodically synchronizing corporate data to a handheld device. However, we have
seen many corporate information technology (IT) managers who explore wireless
and mobile data solutions quickly become overwhelmed with the complexity of the
wireless world and its frequently incompatible and changing protocols for
carrier networks, devices and applications, as well as the issues surrounding
support of such deployments. Further, as carrier networks continue to deploy
newer technologies, we are able to provide our customers with the ability to
migrate and upgrade to them.
We provide businesses the services, software and support necessary to
extend existing and future business applications from the desktop to almost any
wireless device. The foundation of our wireless capabilities is Aether
Fusion(TM), an array of technologies, products, services, and partnerships that
improves the interoperability of wireless systems, architectures and protocols
to make even the most complex IT environments open to wireless connectivity. The
Aether Fusion(TM) technology platform is designed to enable flexible wireless
solutions that will grow and adapt as the enterprise itself grows and changes.
Using the Aether Fusion(TM) technology foundation, we develop, deploy
and manage wireless solutions built on industry standard technology. Businesses,
systems integrators and developers could also use elements of the Aether
Fusion(TM) technology foundation on their own to quickly create, deploy and
manage wireless solutions across multiple carrier networks and types of devices.
We complement our technology with services including wireless data
engineering and application development, wireless data hosting through our Data
Center, product fulfillment and customer support. These components can be used
separately or in various combinations to extend existing and future business
applications to any handheld device over any wireless network.
THE AETHER STRATEGY
We believe our capabilities and experience established us as an early
market leader in providing wireless data services and systems to businesses. Our
strategy is to utilize our experiences to extend our leadership position through
our engineering expertise, our software products, our hosted solutions and our
other resources to move into growth opportunities.
We will continue to focus resources on core areas where we either have
developed a leadership position or have recognized a clear market opportunity.
We currently are focused on the following markets:
Transportation and Logistics. Our main products in this area are
MobileMax(2) and e-Mobile Delivery. Our solution for long haul trucking,
MobileMAX(2), allows transportation companies to increase their return on
investment through instant communication and automatic information on each
vehicle. The product allows these companies to improve the efficiency of their
drivers. Similarly, e-Mobile Delivery increases the efficiency and productivity
of delivery fleets by limiting paperwork, thus reducing the opportunity for lost
documents and inaccurate information. It also provides for delivery confirmation
through signature capture at the delivery site and raises customer service
performance through on-line order/delivery tracking. e-Mobile Delivery
streamlines a customer's payment cycle, which reduces costs and increases the
potential for profits.
Enterprise Solutions. We are focused on providing integrated wireless
data solutions to enterprises with product development emphasis on field
service, sales force automation, distribution and delivery management, and mail
and messaging access. In addition, pursuant to our small business initiative,
through a strategic alliance with America Online, Inc. (AOL) , we are targeting
an array of businesses including real estate agents, contractors and the
automotive industry with products including real-time lead notification and
management tools that will allow the user to be alerted immediately upon an
interested customer's inquiry.
3
Mobile Government. We are a leading provider in the area of wireless
data solutions for public safety. We believe that our existing user base
positions us to help agencies address their basic requirements as well as
expanded Homeland Security needs. In particular, our solutions help address the
information sharing priority that is currently being highlighted by the federal
government. Our solutions are integrated into 47 different state databases as
well as local and federal databases to deliver real-time information in seconds
without having to involve dispatch or other resources. Our products in this area
are the PacketCluster family of products, the new handheld version of
PacketCluster Patrol called PocketBlue, and the FireRMS family of products for
fire and rescue companies.
PRODUCTS AND SERVICES
Our products and services include:
- Software applications targeted to specific vertical market sectors
(transportation and logistics, mobile government, and mobile workforce
enablement applications) and for general wireless data management and
infrastructure;
- Integration services to businesses seeking to develop and incorporate
wireless data systems;
- Hosted services, including wireless integration, Internet and messaging
services, and deployment services including product fulfillment and
customer service; and
- Deployment support that includes product fulfillment and customer
service.
Applications and Software
We have built on our experience in developing tailored applications for
specific customers to develop an increasing number of products that are more
replicable and scalable for a range of customers. Rapid application development
on Aether Fusion(TM) has become an emphasis for us. We currently market over
twenty applications and software products. Approximately half of our engineers
are devoted to this area.
Aether Fusion(TM) is our foundation for developing wireless solutions
for our customers. It is designed to be an expandable foundation to address a
growing set of wireless application challenges. We have developed Aether
Fusion(TM) as a framework to accommodate our existing product base and support
expansion as new applications emerge. Our product history in the wireless and
mobile computing space includes products in the web transformation, data
synchronization, device management, and wireless messaging spaces. We intend to
continue the development of Aether Fusion(TM).
We also offers a complete set of software development tools and
technologies enabling businesses to rapidly build, deploy and manage hosted
mobile and wireless solutions. Businesses use our software products to create
their own wireless and mobile data systems. We believe our products allow these
businesses to create systems at lower cost and more efficiently than if they
developed the systems entirely on their own. Currently, Aether Fusion(TM) is
being used internally to allow our engineers to more rapidly develop and deploy
solutions. We intend to develop Aether Fusion(TM) for external use to meet the
system development needs of our customers and as a licensable product as leading
indicators demonstrate market demand within a customer's infrastructure. We
currently view this market development as a longer-term opportunity.
Integration Services
Integration Services includes consulting and engineering, and
integration into a business's backend infrastructure for wireless data
solutions. We provide engineering services to complement our software products
and some of our hosted services and on a stand-alone basis. We also may accept
engineering assignments that might allow us to embrace technological advances or
expand into new industry sectors or services. Our engineering staff includes
wireless systems engineers, software engineers who specialize in developing
applications for handheld devices, and engineers who specialize in systems
integration and testing. Approximately 15 percent of our engineers are devoted
to integration.
Hosted Services
We provide secure, state-of-the-art hosting facilities for businesses
that wish to outsource the operation and management of their wireless
deployments. Our hosted services offerings include wireless integration into our
Data Center for application hosting and/or wireless connectivity, and Internet
and messaging services to augment vertical market applications.
Corporate managers require rigorous security standards when entrusting
their data to third parties. Our Data Center has numerous redundant elements and
serves as a high-security physical link between data feeds from our business
customers' and others' data systems and wireless carrier networks. We scramble
digital messages as they move along wireless networks using the latest
4
encryption technologies. This relieves corporations from the burden of
constructing similar facilities. We believe our network operations center is
capable of meeting the security standards for services we developed or are
developing for our customers.
We built a Network Operations Center (NOC), the monitoring center for
operations, and a Data Center, the facility which holds the computing elements,
that we believe are unique to the industry in that they were built specifically
for robust wireless deployments. The Data Center currently supports over 40
redundant connections to various wireless data carriers. Similarly, our Internet
connectivity consists of multiple connections through different providers. The
NOC and Data Center were built to be able to achieve greater than 99.99% uptime.
The Data Center was designed to accommodate a total of 5000 servers at full
capacity. The support systems (HVAC, electrical, backup) have all been designed
to accommodate this high-density load. Our infrastructure can be used in a
variety of ways including the hosting of the applications and/or providing
wireless connectivity for the solution. All services are done in a highly secure
environment.
Deployment Services
Our deployment services are headquartered in Owings Mills, Maryland and
include product fulfillment and customer support, which help alleviate the
complexities associated with rolling out and supporting a solution. In today's
environment in which IT departments have limited resources yet are tasked to do
more dispersed work, we offer these services.
Product fulfillment and provisioning facilitates the delivery of devices
to the customer/employee base. During the development process, device(s) are
chosen based on the application's use and these devices are delivered with the
application(s) already on them. For our customers we have the ability to load
and configure tailored software on mobile devices, activate wireless modems and
perform quality assurance checks. We then pack, ship and track the product until
the user receives it. For end users who already own a device, we can provide the
modem and software application only. We handle all repair and warranty issues
for devices we provide to our customers.
Additionally, we offer post deployment customer support and customer
billing. Our customer care specialists can provide support on virtually any
issue that might arise from application troubleshooting to wireless network and
device issues. We can also handle customer billing for our customers' user fees,
device and modem purchases, and other charges. Our billing system can support
increases in our customers' end user base. Here again, we alleviate the
complexities that would otherwise be placed upon a customer's IT department.
SALES AND MARKETING
As of March 2002, we have approximately 70 salespeople, sales engineers
for technical support during the sales cycle and marketing professionals. Our
sales and marketing staff specialize in market sectors, but also sell across the
entire product and service line. Our direct sales team covers all regions of the
U.S., plus Europe from offices in London, Hamburg and Munich. In addition to
having a vertical market focus, our salespeople focus on Fortune 1000 companies
that can benefit from field force automation applications including field
service, sales force automation, and mobile collaboration tools such as
cross-device messaging and personal information management. We are also
targeting large consulting firms to provide our wireless systems for their
clients. Our business development personnel and senior executives also assist in
developing potential strategic relationships for selling and promoting our
services.
In addition to our sales and marketing staff, we advertise in a variety
of media. During 2001, we focused our marketing spending on increasing awareness
of the Aether brand name and promoting awareness of our products and services,
and lead generation. As part of the alliance with AOL, we will be focusing much
of our advertising resources across the family of AOL interactive brands as well
as AOL Time Warner media properties. Further details of this relationship are
discussed in Item 7 - Management's Discussion and Analysis of Financial
Condition and Results of Operations.
EUROPEAN OPERATIONS THROUGH SILA
We address the needs of business customers abroad through Sila
Communications, Ltd., our joint venture with Reuters in which we hold a 60.0%
equity interest. Sila currently targets major corporations throughout Europe who
seek to extend their applications to handheld devices, as well as wireless
carriers seeking to outsource wireless data services. Sila, headquartered in
London, provides wireless system hosting and end user support primarily to
financial services customers via various wireless networks from the European
countries of the United Kingdom, Sweden and Spain and the region of Benelux.
We received a 60.0% interest in Sila in exchange for $13.5 million in
cash plus 100% of the equity interests of IFX, a company we purchased in April
2000 for $85 million. Reuters holds 40.0% of the equity interests of Sila, which
it received in exchange for approximately $20.8 million in cash plus
contribution of all of its rights to Futures Pager Limited, a European paging
5
company. Under a marketing and strategic agreement with Sila and Reuters, we
have agreed to give Sila sales leads and to assist its sale of our products. The
agreement also gives Sila the right to a non-exclusive license to use our
technology and requires Sila to give us an opportunity to sell its products. For
as long as we continue to own a greater than 50% equity interest in Sila, we
have the right to appoint four directors to its seven-director board. David S.
Oros, chairman of Sila, also serves as a director, chairman and chief executive
officer of Aether.
STRATEGIC RELATIONSHIPS
We believe that partnerships are critical to the success of the company
and vital to our growth. The partnerships we have created include joint
development relationships where we are working together with firms to develop
products and/or next generation technologies to address specific vertical market
opportunities. We also have worked with various suppliers at the platform and
application level in Original Equipment Manufacturer (OEM) relationships to
embed technologies from suppliers in Aether FusionTM. Similarly, other hardware
and software manufacturers have chosen to extend their application by imbedding
our technology, Aether FusionTM. Finally, we have distribution partnerships
where we can gain the marketing capacity of other firms with greater market
presence in markets than we have today.
Distribution & Service
We entered into an agreement with Cap Gemini Ernst & Young (CGE&Y) in
May 2001 to develop, market, and deliver mobile and wireless solutions in North
America. CGE&Y has provided a demonstration center featuring our products, and
has educated and trained consultants to deliver our solutions worldwide. Under
the agreement, CGE&Y has agreed to promote our products in connection with its
provision of consulting services and we have agreed to license use of Aether
Fusion by CGE&Y in providing services to its consulting clients.
Wireless Network Carriers
We believe our relationships with wireless network carriers are mutually
beneficial. We believe we are among the largest buyers of wireless data network
capacity for many of the carriers we use. As a result, we are able to negotiate
favorable rates. Typically, we have one-year contracts to buy data network
capacity either for an agreed amount of kilobytes at a flat fee or on a
cents-per-kilobyte basis. We have contracts with wireless carriers including
Verizon Wireless, AT&T Wireless, Cingular Wireless, and Motient. As a result, we
can give our customers a wide variety of wireless carrier choices.
Hardware and Software Vendors
Our services increase the usefulness of wireless handheld devices, and
we believe our solutions will increase sales of these devices. We have therefore
entered into a number of arrangements with mobile device manufacturers,
including the following:
- In February, 2001, we announced a strategic partnership with
Symbol Technologies, Inc., to offer our wireless data systems
and services with Symbol handheld devices.
- In December 2001, we entered a partnership with Sharp to develop
a wireless e-mail solution based on Aether Fusion for the new
Sharp Zaurus device. The device will carry the "Unwired by
Aether" branding. The initial phase of deployment will provide
an ISP (POP3 and IMAP formats) e-mail service targeted to what
Sharp terms the "pro-sumer". This service is expected to be
launched in the first half of 2002. The second phase of
deployment is an Aether developed wireless e-mail solution for
the corporate user with more stringent security (Microsoft
Exchange and Lotus Notes back-ends). We are providing all the
wireless integration for both today's and tomorrow's networks.
- In April 2000, we entered into a strategic agreement with
Research in Motion (RIM) to market and sell RIM wireless
devices.
COMPETITION
The market for our solutions is competitive. We believe we offer the
broadest range of applications and services to businesses necessary to enable
the development, offering and ongoing support of wireless data communication
systems for their employees and customers. The widespread adoption of industry
standards may make it easier for new market entrants to offer some or all of the
services we offer and may make it easier for existing competitors to introduce
some or all of the applications and services they do not now provide, or improve
the quality of their services. We expect that we will compete primarily on the
basis of the functionality, breadth, quality and price of our services. Our
current and potential competitors include:
- wireless systems integrators and database vendors, including
IBM, Oracle, and EDS.
6
- mobile and/or wireless software companies, including Openwave
Systems, Comverse Technology, Inc., AvantGo, Inc., Extended
Systems, Inc., and Puma Technology, Inc., Everypath, Inc., and
Brience, Inc.
- wireless data services providers, such as 724 Solutions Inc. and
GoAmerica, Inc.
- wireless network carriers, such as Verizon Wireless, AT&T
Wireless, Cingular Wireless, Sprint PCS Group, and Nextel
Communications, Inc.
Some of our existing and potential competitors have substantially
greater financial, technical, marketing and distribution resources than we do.
In the category of wireless network carriers, some of these companies may also
sell us airtime for our solutions. Additionally, many of these companies have
greater name recognition and more established relationships with our target
customers. Furthermore, these competitors may be able to adopt more aggressive
pricing policies and offer customers more attractive terms than we can.
Notwithstanding the competitiveness of our market, we believe that our
potential competitors face substantial barriers to market entry. Development of
wireless data systems comparable to those we have already developed is time
consuming and costly.
INTELLECTUAL PROPERTY RIGHTS
We rely on a combination of trademark, patent, copyright, service mark,
trade secret laws and contractual restrictions to establish and protect
proprietary rights in our products and services. We have applied for various
trademarks and patents.
The following trademarks are registered with the United States Patent
and Trademark Office: ScoutSync, Cerulean, Cerulean Design, PacketCluster,
PacketCluster Patrol, PacketWriter, MobileMax2, Advantage. The following
trademarks have been published or allowed by the United States Patent and
Trademark Office: Aether, Aether Systems, Aether & Design, Unwired By Aether,
ScoutBuilder, ScoutIT, ScoutWeb, ScoutExtend, Mobile Finance By Aether, Aether
Airlead, Aether Attache, Aether Smart Agent, MobileFusion, MobileFusion &
Design, Safestop, Information For A Wireless World, PocketInvestigator, PRO2000.
There can be no assurances that our applications will be granted or that holders
of other trademarks will not claim that the published or allowed trademarks, or
other Aether pending trademark applications, infringe their trademarks.
We have received notices of allowance for two of our patents while the
remainder are pending. There is no assurance that the patent applications will
result in patents being issued by the United States Patent and Trademark Office
or other foreign patent offices, nor is there any guarantee that any issued
patent will be valid and enforceable. Other companies may independently develop
or otherwise acquire similar technology or gain access to our proprietary
technology. Despite our precautions, there can be no assurance that we will be
able to adequately protect our technology from competitors in the future. The
enforcement of patent rights often requires the institution of litigation
against infringers. This litigation is often costly and time consuming.
We may be subject to legal proceedings and claims from time to time
relating to the intellectual property of others, even though we take steps to
assure that neither our employees nor our contractors knowingly incorporate
unlicensed copyrights or trade secrets into our products. It is possible that
third parties may claim that our products and services may infringe upon their
trademark, patent, copyright, or trade secret rights. Any such claims,
regardless of their merit, could be time consuming, expensive, cause delays in
introducing new or improved products or services, require us to enter into
royalty or licensing agreements or require us to stop using the challenged
intellectual property. Successful infringement claims against us may materially
disrupt the conduct of our business or affect profitability. There are currently
no legal proceedings or claims for infringement of intellectual property rights
pending against us.
GOVERNMENT REGULATION
We are not currently subject to direct federal, state or local
government regulation, other than regulations that apply to businesses
generally. The wireless network carriers we contract with to provide airtime and
some of our hardware suppliers are subject to regulation by the Federal
Communications Commission. Changes in FCC regulations could affect the
availability of wireless coverage these carriers are willing or able to sell to
us. We could also be adversely affected by developments in regulations that
govern or may in the future govern the Internet, the allocation of radio
frequencies or the placement of cellular towers. Regulations of the SEC
governing online trading could reduce the level of online trading or the demand
for wireless financial information. Also, changes in these regulations could
create uncertainty in the marketplace that could reduce demand for our services
or increase the cost of doing business as a result of costs of litigation or
increased service delivery cost or could in some other manner have a material
adverse effect on our business, financial condition or results of operations.
We currently do not collect sales or other taxes with respect to the
sale of services or products in states and countries where we believe we are not
required to do so. We do collect sales and other taxes in the states in which we
have offices and are required by
7
law to do so. Some jurisdictions have sought to impose sales or other tax
obligations on companies that engage in online commerce within their
jurisdictions. A successful assertion by one or more jurisdictions that we
should collect sales or other taxes on our products and services, or remit
payment of sales or other taxes for prior periods, could have a material adverse
effect on our business, financial condition or results of operations.
Any new legislation or regulation, or the application of laws or
regulations from jurisdictions whose laws do not currently apply to our
business, could have an adverse effect on our business.
EMPLOYEES
As of December 31, 2001, we and our wholly-owned subsidiaries had a
total of approximately 850 employees, excluding employees of Sila, and of these
employees over 250 were engineers. As of December 31, 2001, Sila had
approximately 45 employees. None of our employees is covered by a collective
bargaining agreement. We believe that our relations with our employees are good.
As part of our continued focus on operational efficiency, we reduced our
workforce by approximately 225 persons subsequent to December 31, 2001.
ITEM 2. PROPERTIES
Our principal offices are located in Owings Mills, Maryland in a 92,000
square foot facility under a lease expiring in January 2005 with no renewal
option. We also lease an aggregate of approximately 454,000 square feet for our
offices in Larkspur, California; San Jose, California; San Rafael, California;
Boca Raton, Florida; Bethesda, Maryland; New York, New York; Long Island, New
York; Bethpage, New York; McLean, Virginia; Richmond, Virginia; Vienna,
Virginia; Washington, DC; Tempe, Arizona; Marlborough, Massachusetts; Chicago,
Illinois; Edina, MN; Yakima, Washington; Zillah, Washington; Olmsted, Ohio; and
Monterey, Mexico. Of the approximately 546,000 leased square feet, approximately
114,000 are used for our vertical market segment and approximately 188,000
square feet are utilized for corporate and other purposes. Sila has offices
located throughout Europe. We are currently holding approximately 244,000 square
feet of space for sublease which we plan to exit or have exited in connection
with our restructuring plans. We believe that our retained facilities are
adequate for the purposes for which they are presently used and that replacement
facilities are available at comparable cost, should the need arise.
ITEM 3. LEGAL PROCEEDINGS
Aether and certain of our officers and directors are among the
defendants named in nine purported class action lawsuits. These actions were
filed on behalf of persons and entities who acquired our common stock after our
initial public offering in October 21, 1999. The suits seek damages on account
of alleged violations of securities laws. Among other things, the complaints
claim that prospectuses, dated October 21, 1999 and September 27, 2000 and
issued by us in connection with the public offerings of our common stock,
allegedly contained untrue statements of material fact or omissions of material
fact in violation of securities laws because the prospectuses allegedly failed
to disclose that the offerings' underwriters had solicited and received
additional and excessive fees, commissions and benefits beyond those listed in
the arrangements with certain of their customers which were designed to
maintain, distort and/or inflate the market price of Aether's common stock in
the aftermarket. The actions seek unspecified monetary damages and rescission.
We believe the following claims are without merit and plan to vigorously contest
these actions.
1. Class Action Complaint for Violations of Federal Securities Laws,
Jury Trial Demanded, Civil Action No. 01 CV-7712, filed August 17, 2001. In the
United States District Court for the Southern District of New York, George
Murphy v. Aether Systems, Inc., Merrill Lynch, Pierce, Fenner & Smith Inc.,
FleetBoston Robertson Stephens, Inc., Credit Suisse First Boston Corp., US
Bancorp Piper Jaffray Inc., Bank of America Securities LLC, Morgan Stanley & Co.
Inc., and inds., defendants.
2. Class Action Complaint for Violations of Federal Securities Laws,
Jury Trial Demanded, Civil Action No. 01 CV-7634, filed August 16, 2001. In the
United States District Court for the Southern District of New York, Jerry Krim
v. Aether Systems, Inc., Merrill Lynch, Pierce, Fenner & Smith Inc., BancBoston
Robertson Stephens Inc., Donaldson Lufkin & Jenrette Securities Corp., US
Bancorp Piper Jaffray Inc., Deutsche Bank Securities Inc., Friedman, Billing,
Ramsey & Co. Inc., and inds., defendants. This case has been consolidated with
CV-5570 and closed on September 4, 2001.
3. Class Action Complaint for Violations of the Securities Exchange Act
of 1934, Jury Trial Demanded, Civil Action No. 01 CV-6029, filed July 3, 2001.
In the United States District Court for the Southern District of New York, Larry
Ackerman, On Behalf of Himself and All Others Similarly Situated, plaintiff, v.
Aether Systems, Inc., David S. Oros, David C. Reymann, Merrill Lynch, Pierce,
Fenner & Smith Incorporated, BancBoston Robertson Stephens Inc., Donaldson,
Lufkin & Jenrette Securities Corporation, U.S. Bancorp Piper Jaffray Inc.,
Deutsche Bank Securities Inc., and Friedman, Billing Ramsey & Co., Inc.,
defendants.
4. Class Action Complaint for Violations of the Federal Securities Laws,
Civil Action No. 01 CV 6116, filed July 5, 2001. In the United States District
Court for the Southern District of New York, Henry Cole and Daniel Kucera, on
Behalf of Themselves and
8
All Others Similarly Situated, plaintiff v. Aether Systems, Inc., Merrill Lynch,
Pierce, Fenner & Smith Incorporated, BancBoston Robertson Stephens, Inc., Morgan
Stanley & Co. Incorporated, David S. Oros and David C. Reymann, defendants.
5. Class Action Complaint for Violations of Federal Securities Laws,
Jury Trial Demanded, Civil Action No. 01 CV-6136, filed July 5, 2001. In the
United States District Court for the Southern District of New York, Bernd
Toennesmann, On Behalf of Himself and All Others Similarly Situated, plaintiffs,
v. Aether Systems, Inc., David S. Oros, David C. Reymann, Merrill Lynch, Pierce,
Fenner & Smith Inc., FleetBoston Robertson Stephens Inc., Credit Suisse First
Boston Corp., U.S. Bancorp Piper Jaffray Inc., Bank of America Securities LLC,
and Morgan Stanley Dean Witter & Co., defendants.
6. Class Action Complaint for Violations of Federal Securities Laws,
Jury Trial Demanded, Civil Action No. 01 CV-6269, filed July 11, 2001. In the
United States District Court for the Southern District of New York, Isak
Karasik, on behalf of himself and all others similarly situated, plaintiffs vs.
Aether Systems, Inc., David S. Oros, David C. Reymann, Mark D. Ein, Rajendra
Singh, Merrill Lynch, Pierce, Fenner & Smith, Incorporated, Morgan Stanley Dean
Witter, Inc. and FleetBoston Robertson Stephens, Inc., defendants.
7. Class Action Complaint for Violations of the Federal Securities Laws,
Jury Trial Demanded Civil Action No. 01 CV-5570, filed June 19, 2001. In the
United Stated District Court for the Southern District of New York, Adele Brody
on Behalf of Herself and All Others Similarly Situated, plaintiff v. Aether
Systems, Inc., David S. Oros, David C. Reymann, Merrill Lynch, and Jenrette
Securities Corporation, U.S. Bancorp Piper Jaffray Inc., Deutsche Bank
Securities Inc., and Friedman, Billings, Ramsey & Co., Inc., defendants.
8. Class Action Complaint for Violations of the Federal Securities
Exchange Act of 1934, Jury Trial Demanded, Civil Action No. 01 CV-5666, filed
June 21, 2001. In the United States District Court for the Southern District of
New York, Pond Equities, On Behalf of Itself and All Others Similarly Situated,
plaintiff, v. Aether Systems, Inc., David Oros, David C. Reymann, Merrill Lynch,
Pierce, Fenner & Smith Incorporated, BancBoston Robertson Stephens Inc.,
Donaldson Securities Inc. and Friedman Billing Ramsey & Co., Inc., defendants.
9. Class Action Complaint for Violations of the Federal Securities Laws,
Jury Trial Demanded, Civil Action No. 01 CV-5917, filed June 27, 2001. In the
United States District Court for the Southern District of New York, Edward
Cassady, on Behalf of Himself and All Others Similarly Situated, plaintiffs v.
Aether Systems, Inc., David S. Oros, David C. Reymann, Merrill Lynch, Pierce,
Fenner & Smith Incorporated, BancBoston Robertson Stephens Inc., Donaldson,
Lufkin & Jenrette Securities Corporation, U.S. Bancorp Piper Jaffray Inc.,
Deutsche Bank Securities Inc. and Friedman, Billing, Ramsey & Co., Inc.,
defendants.
We are also a party to other legal proceedings in the normal course of
business. Based on evaluation of these matters and discussions with counsel, we
believe that liabilities arising from these matters will not have a material
adverse effect on the consolidated results of our operations or financial
position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to the Company's stockholders for
consideration during the fiscal quarter ended December 31, 2001.
9
PART II
ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED SECURITY HOLDER
MATTERS
(1) PRICE RANGE OF COMMON STOCK
Our common stock has been quoted on the Nasdaq National Market under the
symbol AETH since our initial public offering on October 20, 1999. Prior to that
time, there was no public market for the common stock. The following table sets
forth, for the periods indicated, the high and low prices per share of the
common stock as reported on the Nasdaq National Market.
2001 2000
------------- -------------
QUARTER ENDED HIGH LOW HIGH LOW
------------- ---- --- ---- ---
March 31.................................................... $58.50 $12.19 $345.00 $73.00
June 30..................................................... $18.95 $ 7.39 $216.00 $62.00
September 30................................................ $11.50 $ 5.60 $203.75 $99.75
December 31................................................. $ 9.74 $ 5.25 $122.50 $28.50
(2) APPROXIMATE NUMBER OF EQUITY SECURITY HOLDERS
The number of record holders of the Company's common stock as of
December 31, 2001 was 398. The Company believes that in excess of 5,000
beneficial owners hold such shares of common stock in depository or nominee
form.
(3) DIVIDENDS
We have never declared or paid any cash dividends on our capital stock
nor, when we were organized as a limited liability company, did we make any
distributions to our members. We currently intend to retain earnings, if any, to
support the development of our business and do not anticipate paying cash
dividends in the foreseeable future. Payment of future dividends, if any, will
be at the discretion of our board of directors after taking into account factors
such as our financial condition, operating results and current and anticipated
cash needs.
ITEM 6. SELECTED FINANCIAL DATA
The table that follows presents portions of our consolidated financial
statements and is not complete. You should read the following selected
consolidated financial data together with our consolidated financial statements
and related notes and with Management's Discussion and Analysis of Financial
Condition and Results of Operations included elsewhere in this Annual Report on
Form 10-K. The consolidated statement of operations data for the years ended
December 31, 1999, 2000, and 2001, and the consolidated balance sheet data as of
December 31, 2000 and 2001 are derived from our consolidated financial
statements, which are included as exhibits to this report on Form 10-K. The
consolidated statement of operations data for the years ended December 31, 1997
and 1998 and the consolidated balance sheet data as of December 31, 1997 and
1998 are derived from audited financial statements that do not appear in this
annual report on Form 10-K. The historical results presented below are not
necessarily indicative of the results to be expected for any future fiscal year.
See Management's Discussion and Analysis of Financial Condition and Results of
Operations in Item 7. The pro forma net loss per share information for the
historical periods presented gives effect to our conversion from a limited
liability company to a corporation immediately prior to our initial public
offering.
10
YEAR ENDED DECEMBER 31,
--------------------------------------------------
1997 1998 1999 2000 2001
------- ------- ------- -------- ---------
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
CONSOLIDATED STATEMENT OF OPERATIONS DATA:
Revenue:
Subscriber revenue........................ $ 161 $ 549 $ 3,617 $ 24,802 $ 44,031
Engineering services revenue.............. 1,625 963 2,594 9,444 7,860
Software and related services revenue..... -- -- -- 17,278 36,982
Device sales.............................. -- -- 115 6,630 24,007
------- ------- ------- -------- --------
Total revenue..................... 1,786 1,512 6,326 58,154 112,880
Cost of subscriber revenue................ 447 797 2,005 11,254 27,167
Cost of engineering services revenue...... 846 304 1,366 5,693 3,644
Cost of software and related services
revenue................................. -- -- -- 5,724 11,625
Cost of device sales...................... -- -- 105 7,345 38,318
------- ------- ------- -------- ----------
Total cost of revenue............. 1,293 1,101 3,476 30,016 80,754
------- ------- ------- -------- ----------
Gross profit...................... 493 411 2,850 28,138 32,126
Operating expenses:
Research and development (1).............. 734 1,267 2,614 30,189 63,937
General and administrative (1)............ 1,505 2,773 5,891 52,937 90,893
Selling and marketing (1)................. 333 840 2,095 54,151 66,757
In process research and development....... -- -- -- 7,860 --
Depreciation and amortization............. 189 265 1,089 238,074 180,724
Option and warrant expense................ 40 33 19,198 14,345 14,408
Impairment of intangibles................. -- -- -- -- 1,121,001
Restructuring charge...................... -- -- -- -- 45,006
------- ------- ------- -------- -----------
Total operating expenses.......... 2,801 5,178 30,887 397,556 1,582,726
------- ------- ------- -------- -----------
Operating loss.............................. (2,308) (4,767) (28,037) (369,418) (1,550,600)
Interest income (expense), net.............. (295) 74 (229) 42,351 8,659
Equity in losses of investments............. (144) -- (2,425) (47,886) (57,523)
Investment loss, including impairments,
net....................................... -- -- -- -- (143,382)
Minority interest........................... -- -- -- 10,692 63,809
------- ------- ------- -------- ------------
Loss before income taxes, extraordinary
item and cumulative effect of change in
accounting principle...................... $(2,747) $(4,693) $(30,691) $(364,261) $(1,679,037)
Income tax benefit.......................... -- -- -- 1,561 10,694
------- ------- ------- -------- -----------
Loss before extraordinary item and
cumulative effect of change in accounting
principle................................. (2,747) (4,693) (30,691) (362,700) (1,668,343)
Extraordinary item (early extinguishment
Of debt).................................. -- -- -- -- 7,684
------- ------- ------- -------- -----------
Loss before cumulative effect of change in
accounting principle........................ (2,747) (4,693) (30,691) (362,700) (1,660,659)
Cumulative effect of change in accounting
principle relating to adoption of
SFAS No. 133.............................. -- -- -- -- 6,564
------- ------- ------- -------- -----------
Net loss.................................... $(2,747) $(4,693) $(30,691) $(362,700) $(1,654,095)
======= ======= ======= ======== ===========
Net loss per share -- basic and diluted
before extraordinary item and cumulative
effect of change in accounting principle.. $ (9.99) $ (40.96)
Extraordinary item.......................... -- $ 0.19
Cumulative effect of change in accounting
principle relating to adoption of
SFAS No. 133.............................. -- 0.16
-------- -----------
Net loss per share--basic and diluted....... $ (9.99) $ (40.61)
========= ===========
Weighted average shares used in computing
net loss per share -- basic and diluted... $ 36,310 $ 40,732
======== ===========
Pro forma net loss per share -- basic and
diluted................................... $ (0.22) $ (0.29) $ (1.45)
======= ======= =======
Pro forma weighted average shares used in
computing net loss per share -- basic and
diluted................................... 12,656 15,916 21,207
======= ======= =======
11
1997 1998 1999 2000 2001
------ ----- ------ -------- ----------
(IN THOUSANDS)
CONSOLIDATED BALANCE SHEET DATA:
Cash and cash equivalents (including
restricted cash)........................... $ 132 $1,755 $ 78,542 $ 872,747 $527,430
Working capital (deficit).................... (323) 7,519 83,128 819,624 503,873
Total assets................................. 822 8,765 102,534 $2,677,375 949,420
Total debt................................... 150 -- -- 334,942 306,138
Members' capital............................. 74 8,030 -- -- --
Stockholders' equity......................... -- -- 98,342 2,167,698 542,527
(1) Exclusive of option and warrant expense - see consolidated financial
statements.
12
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS (MD&A)
You should read the following description of our financial condition and
results of operations in conjunction with our Consolidated Financial Statements
and Notes thereto and other financial data appearing elsewhere in this Form
10-K.
MD&A (1) OVERVIEW
Aether Systems, Inc. was originally formed as Aeros, L.L.C. in January
1996. We changed our name to Aether Technologies International, L.L.C. effective
August 1996 and to Aether Systems L.L.C. effective September 1999. Immediately
prior to the completion of our initial public offering of common stock on
October 26, 1999, the limited liability company was converted into a Delaware
corporation and our name was changed to Aether Systems, Inc.
From our inception until March 1997, we primarily provided wireless
engineering services, including the development of wireless software
applications for customers. In March 1997, we began offering services that
provide the users of wireless handheld devices access to real-time financial
information. During 1997, we made a strategic decision to focus a significant
portion of our engineering resources on the development of these and other
wireless data services and systems, including our Aether Intelligent Messaging
(AIM) package of wireless messaging software and software development tools.
In 1998 and 1999, we continued to develop financial information services
- -- as well as financial transaction services -- internally and through our
acquisition of Mobeo, Inc. In 1999, we also completed our initial public
offering and began to expand our service offerings to areas other than financial
information and transactions.
In 2000, we continued our expansion into other vertical markets,
including the transportation and logistics vertical market through our
acquisitions of LocusOne and Motient's retail transportation business unit and
the mobile government vertical market through the acquisitions of Cerulean and
SunPro. We broadened our software offerings through our purchase of Riverbed and
RTS Wireless. Also in 2000, we moved into the European marketplace with our
acquisition of IFX, and the related formation of Sila. We entered the general
wireless and Internet messaging services market through strategic relationships
with Research in Motion (RIM) and others and through our own service offerings.
In 2001, we continued our integration strategy resulting in expense
reductions and operational efficiencies. We focused our efforts on several
growth areas including mobile government and transportation and logistics. We
created our enterprise services division to develop and sell enterprise products
to large corporations. Also in 2001, we entered into a strategic relationship
with AOL to provide wireless solutions to small and medium sized businesses.
MD&A (2) FACTORS AFFECTING COMPARABILITY
Our results of operations in 2001 and 2000 have been affected by
acquisitions, investments, impairment charges and the formation of Sila. In
addition, a combination of factors has resulted in operating losses that we
expect will continue for some time. The factors identified below have had a
significant impact on our operations and should be considered in comparing our
results of operations in 2001 to those in 2000 and in comparing our results of
operations in 2000 to those in 1999.
(a) ACQUISITIONS
We have acquired companies to expand our product offerings and
geographic markets and to acquire additional engineering resources to develop
products. From September 1999 through December 31, 2000, we acquired 10
businesses (or parts of businesses) for an aggregate consideration of $365.8
million in cash and equity valued at the time of acquisition of $1.284 billion,
consisting of 6,259,445 shares of our common stock and 1,093,785 replacement
options. These acquisitions included the following:
- - During 1999, we acquired Mobeo for a purchase price and related expenses of
$11.5 million in cash and 46,105 options valued at $374,000.
- - In early 2000, we acquired LocusOne, NetSearch, and IFX for purchase prices
aggregating approximately $160.6 million.
- - On March 6, 2000, we acquired Riverbed for 4,537,281 shares of our common
stock and 862,480 options with an aggregate value of $1.136 billion. In
connection with our acquisition of Riverbed, we incurred costs totaling
approximately $16.9 million.
- - In September 2000, we acquired Cerulean, SunPro and Sinope for purchase prices
and related expenses aggregating approximately $93.4 million and 462,412 shares
of our common stock and 94,952 options with an aggregate value of $69.9 million.
13
- - On November 30, 2000, we acquired Motient's retail transportation business
unit for $49.2 million in cash and related expenses.
- - On December 22, 2000, we acquired RTS for a purchase price of $34.2 million in
cash and related expenses plus 1,259,752 shares of our common stock and 90,248
options with an aggregate value of $78.0 million.
Our acquisitions increase our operating revenues and expenses from the
date of acquisition. In the discussion of results below, we quantify the effects
of acquisitions on our revenues and expenses. Generally, acquisitions also
increased our depreciation and amortization expense as we amortize the value of
acquisition intangibles. However during 2001 we wrote down the value of the
intangible assets related to acquisitions significantly and as such, our
amortization expense in 2001 decreased from the prior year. See the section
entitled "Impairment Charges" below for a more detailed discussion of this write
down. Finally, acquisitions affect non-cash compensation when we issue options
to employees at the time of an acquisition.
(b) FORMATION OF SILA
On May 4, 2000, we formed Sila with Reuters to extend our operations to
the European market. We contributed our IFX subsidiary (which we purchased for
$85.0 million shortly before forming Sila), plus $13.5 million in cash to
acquire a 60.0% interest in Sila. Reuters contributed cash of approximately
$20.8 million and Futures Pager Limited, a European paging company, for the
remaining 40.0% interest. The results of Sila are consolidated in our financial
statements.
(c) INVESTMENTS
We have made investments through Aether Capital, L.L.C., our
wholly-owned subsidiary, to promote the development of new technologies that are
compatible with the services we offer or that we may wish to integrate into our
services. Since August 1999, we have invested approximately $196.8 million in 24
companies. These investments currently include six publicly traded and private
companies in which we exercise significant influence or have an ownership
interest greater than twenty percent. We account for these investments under the
equity method of accounting and record our proportionate share of the investee's
net income or loss.
We currently have investments in five publicly-traded companies in which
we do not exercise significant influence or have an ownership interest greater
than twenty percent. We account for these investments at fair value based on
quoted market prices. Net unrealized gains and losses on these
available-for-sale securities are excluded from income and recorded as a
separate component of stockholders' equity unless the decline is deemed to be
other than temporary. Subsequent to our investment, the market values of these
investments have decreased significantly. In some cases we have determined the
decline in market value of our investments in publicly-traded companies to be
other than temporary, and as such have recorded realized losses on these
investments, which are included in net loss. See "Impairment Charges" below
for a more detailed discussion of this write-down.
We also currently have investments in eleven private companies. We
account for these investments at cost unless circumstances indicate the carrying
amount of the investment may not be recoverable, at which time the carrying
value of the investment is adjusted to fair value. Subsequent to our investment,
we have written down the carrying value of our investments to fair value. See
the section entitled "Impairment Charges" below for a more detailed discussion
of this write-down.
(d) IMPAIRMENT CHARGES
(i) Acquisitions
From 1999 through December 31, 2001, we recorded approximately $1.718
billion in goodwill and other intangibles related to our acquisitions. In
addition, we have made investments in other businesses totaling approximately
$196.8 million during this period. We perform an on-going analysis of the
recoverability of our goodwill and other intangibles and the value of our
investments in accordance with SFAS No. 121, Accounting for the Impairment of
Long-Lived Assets and For Long-Lived Assets to be Disposed Of. Based on
quantitative and qualitative measures, we assess the need to record impairment
losses on long-lived assets used in operations when impairment indicators are
present. The impairment conditions evaluated by us may change from period to
period, given that we operate in a volatile business environment.
A number of factors indicated that impairments may have occurred in the
year ended December 31, 2001. Consideration for some of our acquisitions was
partially or fully funded through the issuance of shares of our common stock at
a time when our stock price was at historically high prices. Our stock price
ranged from $40.81 to $266.00 per share at the time of these acquisitions. At
December 31, 2001, our stock price was $9.20 per share. Most of the companies we
acquired or invested in are start-up or newly formed entities. Most of these
companies were privately-held and their fair values are highly subjective and
not readily determinable. At the time of these acquisitions and investments,
market valuations and the availability of capital for such companies was at
historically high levels. During 2001, stock prices and market valuations in our
industry and similar industries fell substantially in response to a variety of
factors, including a general downturn in the economy, a curtailment in the
availability of capital and a general reduction in technology expenditures.
14
Based on the factors described above, we determined during 2001 that the
goodwill and other intangibles from our acquisitions may have become impaired.
In accordance with SFAS No. 121, we performed undiscounted cash flow analyses of
our acquisitions to determine whether any impairments existed. When the
undiscounted cash flows were less than the carrying value of the related assets,
we determined a range of fair values using a combination of valuation
methodologies. The methodologies included:
- Discounted cash flow analysis, which is based upon converting
expected future cash flows to present value.
- Changes in market value since the date of acquisition relative
to the following:
- our stock price;
- comparable companies;
- the NASDAQ composite index; and
- a composite of companies that operate within our
industry.
- Market price multiples of comparable companies.
- Contribution to our market valuation.
The methodologies used were consistent with the specific valuation
methods used when the original purchase price was determined. Our best estimate
of the fair value was determined from the range of possible values after
considering the relative performance, future prospects and risk profile of the
acquired company. In connection with the valuation of the Riverbed acquisition,
we engaged an independent third party to determine the fair value of the
acquired business, because of the magnitude of the acquisition and the
associated potential impairment.
As a result of our review, we determined that the carrying value of
goodwill and certain other intangible assets related to our acquisitions were
not fully recoverable. Accordingly, during 2001, we recorded impairment charges
of approximately $1.121 billion, which represents the difference between the
carrying value and fair value of the goodwill and other intangible assets. The
impairment of goodwill and other intangible assets from the acquisition of
Riverbed amounted to approximately $775.0 million. We also recorded impairment
charges to goodwill and other intangibles related to the acquisitions of IFX and
related formation of Sila, LocusOne Communications, Inc., NetSearch, LLC,
Cerulean Technology, Inc., Sunpro and RTS Wireless, Inc of approximately $346.0
million.
Because the conditions underlying the factors we use to evaluate our
acquisitions change from time to time, we could determine that it is necessary
to take additional material impairment charges in future periods.
(ii) Investments
We adjust the carrying value of our available-for-sale investments and
equity method investments in public companies to market and record the change in
market value to other comprehensive income. In accordance with SAB 59,
"Accounting for Noncurrent Marketable Equity Securities", we assess the decline
in market value in certain of our public company investments as other than
temporary after reviewing the following factors: length of time and extent to
which the market value of the investment has been below cost, the financial
position and the near-term prospects of the issuer, and our intent and ability
to retain our investment in the investee for a period of time sufficient to
allow for any anticipated recovery in market value.
With respect to investments in private companies including those we
account for using the equity method, we perform on-going reviews based on
quantitative and qualitative measures. In evaluating our private company
investments, we determined a range of fair values based on a combination of the
following valuation methods where applicable:
- Recent funding rounds.
- Changes in market value since the date of investment relative to
the following:
- Our stock price;
- comparable companies;
- the NASDAQ composite index
- a composite of companies that operate within our
industry.
- Market price multiples of comparable companies.
The fair value was determined from the range of possible values, after
considering the strength of the investee's financial position, future prospects
and risk profile of the invested company.
During 2001, we recorded a net charge of $143.4 million which included
$136.7 million in impairment charges related to our investments. The remainder
of the net charge related to net gains (losses) from the sales of investments,
and changes in the fair value of warrants.
Because the conditions underlying the factors we use to evaluate
investments change from time to time, we could determine that it is necessary to
take additional material impairment charges in future periods.
15
MD&A (3) CRITICAL ACCOUNTING POLICIES
Our critical accounting policies are as follows:
- Revenue recognition;
- Estimating the valuation allowance for sales returns and doubtful
accounts;
- Estimating the realizable value of our inventory;
- Valuation of long-lived intangible assets, including goodwill;
- Valuation of investments; and
- Restructuring accruals
(a) REVENUE RECOGNITION
We derive our revenue from four sources (i) subscriber revenue (ii)
engineering services (iii) software and related services, and (iv) device sales.
As described below, significant management judgments and estimates must be made
and used in connection with the revenue recognized in any accounting period. If
we made different judgments or utilized different estimates, the amount and
timing of our revenue might have differed materially from that reported.
i.) Subscriber revenue
We derive subscriber revenue from the provision of real-time access to
business information integrated into existing wireless communication platforms.
For all sales, except those completed over the Internet, we obtain signed
binding contracts with our subscribers. Contracts with our wireless data
subscribers are generally for a one-year period and include a termination
penalty if cancelled by the subscriber before the one-year period expires. These
contracts are generally renewable at the option of the subscriber for additional
one-year periods or otherwise continue on a monthly basis until cancelled by the
subscriber.
Our subscriber contracts contain provisions for elements such as
service, activation, and wireless devices. This requires us to allocate revenue
to such elements based on their relative fair values which requires significant
management judgments and estimates. We estimate the relative fair value of the
service based on contractual renewal rates. We estimate the fair value of the
equipment based on sales in which the only element of the transaction was
equipment. How we allocate revenue to the elements of the arrangement may affect
the period in which the revenue is recognized.
Subscriber revenue consists primarily of fixed charges for usage
recognized as the service is provided and one-time non-refundable activation
fees recognized ratably over the expected life of the customer relationship.
Certain of our customers are billed in advance with revenue deferred and
recognized on a monthly basis over the term of the agreement. Also included in
subscriber revenue are market exchange fees for access to financial information
from the securities exchanges and markets, which are recognized as the service
is provided.
ii.) Engineering services revenue
Engineering services revenue is derived from the provision of wireless
integration consulting under time-and-materials and fixed-fee contracts. Revenue
on time-and-materials contracts is recognized as time is spent at hourly rates,
which are negotiated with the customer. Revenue on fixed-fee contracts is
recognized on the percentage-of-completion method based on costs incurred in
relation to total estimated costs. Anticipated contract losses are recognized as
soon as they become known and estimable. Considerable judgment may be required
in determining estimates to complete a project including the scope of work to be
completed and reliance on the customer or other vendors to fulfill some tasks.
If we made different judgements or utilized different estimates of the total
amount of work we expect to be required to complete the project, the timing of
our revenue recognition from period to period, and our margins on the project in
this reporting period, may have differed materially from that reported.
iii.) Software and related services revenue
Software and related services revenues are generated from licensing
software and providing services, including maintenance and technical support,
training and consulting. Software revenue consists of fees for licenses of our
software products. We recognize the revenue when the license agreement is
signed, the license fee is fixed and determinable, delivery of the software has
occurred, and when we estimate that the collectibility of the fees is probable.
At the time of the transaction, we assess whether the fee associated with our
revenue transactions is fixed and determinable and whether or not collection is
reasonably assured. If a significant portion of a fee is due after our normal
payment term, we account for the fee as not being fixed and determinable. In
these cases, we recognize revenue as the fees become due. We assess collection
based on a number of factors, including past transaction history with the
customer and credit worthiness of the customer. We do not request collateral
from our customers. If we determine that collection of a fee is not reasonably
assured, we defer the fee and recognize revenue at the time it becomes
reasonably assured, which is generally upon receipt of cash. If we assessed
collectibility differently, the timing and amount of our revenue recognition may
have differed
16
materially from that reported.
Revenue from licensing software that requires significant customization
and modification is recognized using the percentage of completion method , based
on the hours incurred in relation to the total estimated hours. If we made
different judgements or utilized different estimates of the total amount of work
we expect to be required to customize or modify the software, the timing of our
revenue recognition from period to period, and our margins on the project in
this reporting period, may have differed materially from that reported. Service
revenues consist principally of maintenance and technical support, which
consists of unspecified when-and-if available product updates and customer
telephone support services and are recognized ratably over the term of the
service period. If we allocated more or less value to these when-and-if
deliverables, the timing of our revenue recognition may have differed materially
from that reported. Other service revenues are recognized as the related
services are provided. In situations where we host the software and the customer
has the option to take possession of the software at any time during the hosting
period without significant penalty and we believe it is feasible for the
customer to either run the software on its own hardware or contract with another
party unrelated to us to host the software, the software element is accounted
for in accordance with SOP 97-2. Otherwise, such amounts are recognized ratably
over the hosting period. If our assessment of this feasibility were different,
the timing of our revenue recognition may have differed materially from that
reported.
iv.) Device revenue
We derive device revenue on the sale of wireless devices used to provide
our services. Generally, revenue for device sales is recognized upon delivery.
In cases where, in our judgment, (1) the service is essential to the
functionality of the device and (2) only our ongoing service is available for
the device, we recognize the device revenue as the ongoing service is provided
over the estimated life of the customer relationship. If management were to
judge differently about 1 or 2 above, the timing of our revenue recognition may
have differed materially from that reported.
v.) Revenue from multiple element arrangements
For arrangements with multiple elements, we allocate revenue to each
component of the arrangement using the residual value method. This means that we
defer revenue from the total fees associated with the arrangement equivalent to
the fair value of the element(s) of the arrangement that has (have) not yet been
delivered. The fair value of any undelivered elements is established by using
historical evidence specific to Aether Systems. For instance, the fair values
for maintenance and technical support is based on separate sales of renewals to
other customers or upon the renewal rates quoted in the contracts and the fair
value of services, such as training is based on separate sales by us of these
services to other customers. If we allocated the respective fair values of the
elements differently, the timing of our revenue recognition may have differed
materially from that reported.
vi.) Revenue from related parties
Revenue from products and services sold to companies that we have also
made strategic investments in (related parties) is allocated between the
investment and revenue recognized based on the relative fair value of the
products and services sold and the investment received. We have determined the
fair value of the investments based on the fact that all of our investments were
made in participation with other unrelated financial investors at the same price
per share as the other investors. Our investment policy generally limits our
investments to companies that have completed at least two rounds of financing
and generally requires that an unrelated investor lead the round of financing
that we participate in. We have estimated the fair value of products and
services sold based on comparable sales transactions to other unrelated
companies. Sales to related parties were $11.4 million, $10.5 million and $2.2
million for the years ended December 31, 2001, 2000 and 1999, respectively. If
we estimated fair values of the products and services differently, the amount of
revenue recognized may have differed materially from that reported.
(b) ALLOWANCE FOR SALES RETURNS AND DOUBTFUL ACCOUNTS
The preparation of financial statements requires us to make estimates
and assumptions that affect the reported amount of assets and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reported period.
Specifically, we must make estimates of potential product returns and the
valuation of our accounts receivables. We analyze historical returns, current
economic trends, and changes in customer demand and acceptance of our products
when evaluating the adequacy of our allowance for sales returns. We recorded
provisions for sales returns of $4.4 million during the year ended December 31,
2001. Provisions recorded for sales returns in 2000 and 1999 were not
significant. We analyze historical bad debts, customer concentrations, customer
credit-worthiness, and current economic trends when evaluating the adequacy of
the allowance for doubtful accounts. Historically, a portion of our customer
base has included customers with a limited operating history that were subject
to many of the risks and uncertainties that we are, including rapid changes in
technology, no established markets for their products, and intense competition,
among others. In addition, many of these companies required significant
infusions of capital to continue operations. The availability of such capital
has been curtailed during 2001 and some of these companies were not able to
raise sufficient funds to continue their operations. As a result, we recorded
bad debt expense of $9.8 million during the year ended December 31, 2001. As of
December 31, 2001, our net accounts receivable balance was $24.8 million, net of
allowance for sales returns and doubtful accounts of $10.6 million. Amounts
included in our accounts receivable from customers with limited
17
operating history as of December 31, 2001 were not significant. We recorded bad
debt expense of approximately $1.4 million during the year ended December 31,
2000. Bad debt expense in 1999 was not significant. If we had used different
estimates and assumptions related to the amount of sales returns we would
receive, and about the collectibility of our accounts receivable, our provisions
for sales returns and allowance for doubtful accounts may have differed
materially from that reported.
(c) VALUATION OF INVENTORY
Inventory, net of allowance for obsolete and slow-moving inventory,
consists of finished goods such as handheld and laptop computers, pagers,
wireless modems, and accessories and is stated at the lower of cost or market.
Cost is determined using a standard costing method, which approximates the
first-in, first-out method. Our inventory is subject to rapid technological
changes that could have an adverse impact on its realization in future periods.
In addition, there are a limited number of suppliers of our inventory. During
2001, we recorded an impairment charge of approximately $14.4 million to reduce
the carrying value of our inventory due to obsolescence and excess inventory. We
estimated the reduction in inventory value based on our consideration of the
following: (1) quantities and composition of inventory held; (2) sales prices of
competing vendors; (3) projected unit sales and unit pricing over subsequent
twelve month period; and (4) evaluation of remaining inventory purchase
commitments. If our projections were different, our margins on device sales may
have differed materially from that reported. If our estimates of projected units
sales and unit pricing are less than actual results, we may be required to
record additional impairment charges in the future
(d) VALUATION OF LONG-LIVED ASSETS INCLUDING INTANGIBLE ASSETS AND GOODWILL
During 2001, we recorded significant impairment charges on our goodwill
and other intangible assets associated with our acquisitions. These charges and
our accounting policies are described in detail under "Impairment Charges"
above. In 2002, we will be required to adopt Statement of Financial Accounting
Standards ("SFAS") No. 142, "Goodwill and Other Intangible Assets". See "Recent
Accounting Pronouncements" below for further discussion.
(e) VALUATION OF INVESTMENTS
During 2001, we recorded significant impairment charges on our strategic
investments. These charges and our accounting policies are described under
"Impairment Charges" above.
(f) ESTIMATION OF RESTRUCTURING ACCRUALS
During 2001, we implemented an expense reduction plan as part of our
integration strategy focused on improving operational efficiencies and the
implementation of other measures in order to reduce planned expenses. These
efforts have resulted in the consolidation of excess facilities and a reduction
in our work force. As a result of this restructuring plan, we recorded charges
to earnings during 2001 of $45.0 million. These charges consisted of a charge of
$15.9 million in the second quarter, a charge of $18.2 million in the third
quarter and a charge of $10.9 million in the fourth quarter. The charge related
mainly to a workforce reduction of over 480 positions and the closing or
consolidation of twelve facilities. Employee separation benefits of $10.2
million under the restructuring plan include severance, medical, and other
benefits. Facility closure costs and other of $34.8 million include expected
losses on subleases, brokerage commissions, asset impairment charges, contract
termination costs and other costs. As of December 31, 2001, the accrued
liability related to the restructuring was $27.8 million.
Calculation of the restructuring accrual related to expected losses on
subleases requires us to make estimates concerning: (1) the expected length of
time to sublease the facility; (2) the expected rental rates on subleases; and
(3) estimated brokerage expenses associated with executing the sublease. We used
the assistance of independent real estate brokerage firms in the making these
estimates and our estimates may be impacted by future economic trends. The
expected losses on subleases have not been discounted. If the actual results
differ from our estimates, we may be required to adjust our restructuring
accrual related to expected losses on subleases, including recording additional
losses.
MD&A (4) RECENT ACCOUNTING PRONOUNCEMENTS
(a) SFAS NO. 141
In July 2000, the FASB issued SFAS No. 141, "Business Combinations."
SFAS No. 141 requires the purchase accounting for business combinations
initiated after June 30, 2001 and eliminates the pooling-of-interests method. We
believe that the adoption of SFAS No. 141 will not have a significant impact on
our financial statements.
(b) SFAS NO. 142
In July 2001, the FASB issued SFAS No. 142, "Goodwill and Other
Intangible Assets", which is effective for fiscal years beginning after December
15, 2001. SFAS No. 142 requires, among other things, the discontinuance of
goodwill amortization. In addition, the standard includes provisions upon
adoption for the reclassification of certain existing and recognized intangibles
such as goodwill, reassessment of the useful lives of existing recognized
intangibles, reclassification of certain intangibles out of previously
18
reported goodwill and testing for impairment of existing goodwill and other
intangibles. Upon adoption of SFAS No. 142, we will cease to amortize
approximately $171.0 million of goodwill. We had recorded approximately $117.6
million of amortization on these amounts during 2001 and would have recorded
approximately $53.0 million of amortization during 2002. In lieu of
amortization, we will be required to perform an impairment review of our
goodwill balance upon the initial adoption of SFAS No. 142. The impairment
review will involve a two-step process as follows:
- - Step 1 -- We will compare the fair value of our reporting units to the
carrying value, including goodwill of each of those units. For each
reporting unit where the carrying value, including goodwill, exceeds the
unit's fair value, we will move on to step 2. If a unit's fair value exceeds
the carrying value, no further work is performed and no impairment charge is
necessary.
- - Step 2 -- We will perform an allocation of the fair value of the reporting
unit to its identifiable tangible and non-goodwill intangible assets and
liabilities. This will derive an implied fair value for the reporting unit's
goodwill. We will then compare the implied fair value of the reporting
unit's goodwill with the carrying amount of reporting unit's goodwill. If
the carrying amount of the reporting unit's goodwill is greater than the
implied fair value of its goodwill, an impairment loss must be recognized
for the excess.
We expect to complete Step 1 of the impairment review during the second
quarter of 2002 and must complete Step 2 prior to December 31, 2002. During the
first quarter of 2002 we will also be required to evaluate the estimated useful
lives and separability of our identifiable intangible assets. Since year end,
our business has continued to be impacted by significant negative industry and
economic trends. Additionally, our stock price has continued to decline since
December 31, 2001 and our market capitalization is below our book value.
Accordingly, we may be required to record an impairment charge based on our
adoption of SFAS No. 142. We are currently assessing the impact that the
adoption of SFAS No. 142 will have on our financial position or results of
operations.
(c) SFAS NO. 144
In October 2001, the FASB issued SFAS No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets." SFAS No. 144 addresses significant
issues relating to the implementation of SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of,"
and develops a single accounting method under which long-lived assets that are
to be disposed of by sale are measured at the lower of book value or fair value
less cost to sell. Additionally, SFAS No. 144 expands the scope of discontinued
operations to include all components of an entity with operations that (1) can
be distinguished from the rest of the entity and (2) will be eliminated from the
ongoing operations of the entity in a disposal transaction. SFAS No. 144 is
effective for financial statements issued for fiscal years beginning after
December 15, 2001 and its provisions are to be applied prospectively. We believe
that the adoption of SFAS No. 144 will not have a significant impact on our
financial position or results of operations.
MD&A (5) COMPARISON OF RESULTS FOR YEARS ENDED DECEMBER 31, 2001, 2000 AND 1999
(a) SUBSCRIBER REVENUE
Subscriber revenue may consist of:
- - a one-time non-refundable activation fee.
- - monthly per-subscriber service fees.
- - monthly per-subscriber exchange fees for access to financial information from
the securities exchanges and markets.
- - monthly fees for providing access to our network operations center.
Subscriber revenue increased to $44.0 million for the year ended
December 31, 2001 from $24.8 million for the year ended December 31, 2000 and
from $3.6 million for the year ended December 31, 1999. Subscribers increased to
62,403 at December 31, 2001 from 47,273 at December 31, 2000 and from 4,565 at
December 31, 1999. Approximately $9.6 million of the increase in 2001 was due to
sales to existing and new Mobile Max customers. Additionally, approximately $9.6
million of the increase in subscriber revenue resulted from the increased number
of subscribers that signed on to our existing and new product and service
offerings such as wireless messaging and financial services products. The Mobile
Max product line was obtained in connection with an acquisition made in the
fourth quarter of 2000. The increase in 2000 from 1999 was primarily due to
sales to existing and new customers of product and service offerings obtained in
connection with acquisitions.
(b) COST OF SUBSCRIBER REVENUE
Cost of subscriber revenue consists primarily of airtime costs,
financial data costs, and securities exchange and market fees. Our airtime costs
are determined by agreements we have with several wireless carriers. Typically,
we have one-year contracts to buy data network capacity either for an agreed
amount of kilobytes at a flat fee or on a cents-per-kilobyte basis. Cost of
subscriber revenue excludes depreciation on, and operating costs of, our network
operations center and certain costs of customer fulfillment and customer care.
Cost of subscriber revenue increased to $27.2 million for the year ended
December 31, 2001, from $11.3 million for the year ended December 31, 2000, and
from $2.0 million for the year ended December 31, 1999. Approximately $6.4
million of the increase for 2001 was from costs associated with sales to
existing and new Mobile Max customers. An additional $9.5 million of the
19
growth in 2001 was from an increase in subscribers that signed on to our
existing and new product and service offerings such as wireless messaging and
financial services products. The Mobile Max product line was obtained in
connection with an acquisition made in the fourth quarter of 2000. We generally
expect the cost of subscriber revenue to increase proportionately with any
increase in subscriber revenue. During 2001, the cost of subscriber revenue
increased relative to volume of sales as a result of several factors. These
factors included the increased cost of airtime in Germany related to Sila and
incremental costs associated with providing services to non-paying customers
obtained in connection with our acquisition of Motient's retail transportation
business unit. During 2001 we converted some of these non-paying customers into
paying subscribers by repairing their non-working equipment and intend to
continue seeking to do so with others. Given these conversions, and given that
we no longer have operations in Germany, these conditions that have negatively
affected margins were temporary. The increase for 2000 was primarily from sales
to existing customers and new customers of product and service offerings
obtained in connection with our acquisitions.
(c) ENGINEERING SERVICES REVENUE
Revenue from engineering services consists of amounts billed to our
customers for engineering time on an hourly basis or fixed fees on a per project
basis. Engineering services revenue decreased to $7.9 million for the year ended
December 31, 2001, from $9.4 million for the year ended December 31, 2000, which
was an increase from $2.6 million for the year ended December 31, 1999. The
decrease between 2001 and 2000 was primarily due to the completion of several
large engineering projects in early 2001 including OmniSky and Incisent. The
increase between 2000 and 1999 was primarily due to our engineering services
contracts with OmniSky, Merrill Lynch, Response Services, LLC and Inciscent. We
recognized $6.9 million under these contracts for the year ended December 31,
2000.
(d) COST OF ENGINEERING SERVICES REVENUE
Cost of engineering services revenue consists of cash compensation and
related costs for engineers and other project-related costs. Cost of engineering
services revenue decreased to $3.6 million for the year ended December 31, 2001,
from $5.7 million for the year ended December 31, 2000, which was an increase
from $1.4 million for the year ended December 31, 1999. The decrease between
2001 and 2000 was primarily due to the decrease in engineering services
performed as discussed above. Margins increased in 2001 primarily due to higher
margin contracts. The increase between 2000 and 1999 was primarily due to the
cost of our engineering services contracts with OmniSky, Merrill Lynch, Response
Services and Inciscent. We recognized costs of $4.1 million under these
contracts for the year ended December 31, 2000.
(e) SOFTWARE AND RELATED SERVICES REVENUE
We derive revenue from the licensing of software products, including
elements of the Aether Fusion(TM) platform, formerly sold as AIM and the
ScoutWare software suite, as well as from the e-Mobile software suite, the
PacketCluster software suite and the FireRMS software suite. In the future, we
may generate revenue from the licensing of newer versions of our software
foundation Aether Fusion(TM). Software and related services revenue increased to
$37.0 million for the year ended December 31, 2001 from $17.3 million for the
year ended December 31, 2000. We did not have any software and related services
revenue for the year ended December 31, 1999. The increase in 2001 over 2000 was
primarily due to sales to existing and new customers of the PacketCluster
software suite and the FireRMS software suite both of which were obtained in
conjunction with acquisitions made late in the 2000. Approximately $17.0 million
of the software and related services revenue in 2000 was generated from the sale
of licenses and services of the ScoutWare software platform, e-Mobile Delivery
platform, PacketCluster software suite and the FireRMS software suite, all of
which were obtained in conjunction with acquisitions occurring in 2000 and their
subsequent growth.
(f) COST OF SOFTWARE AND RELATED SERVICES REVENUE
Cost of software and related services revenue consists of costs of
licensing, including royalty payments and personnel costs. Cost of software and
related services revenue was $11.6 million for the year ended December 31, 2001
and $5.7 million for the year ended December 31, 2000, relating to royalty fees
for third-party intellectual property used in the software that we sell and
personnel costs incurred in the customization of software products and the
support of those products. The increase for 2001 over 2000 relates primarily to
the increase in software revenue between periods as discussed above. We did not
have any costs of software and related services revenue for the years ended
December 31, 1999.
(g) DEVICE SALES
Revenue from device sales increased to $24.0 million for the year ended
December 31, 2001 from $6.6 million for the year ended December 31, 2000 and
$115,000 for the year ended December 31, 1999. The increase in device sales
between 2001 and 2000 relates primarily to sales of products to new subscribers
between periods and $3.4 million of bulk sales of devices to other vendors. The
increase in device sales between 2000 and 1999 relates primarily to the increase
in subscribers between periods. We expect that bulk sales of devices will be an
insignificant part of device revenue for 2002.
(h) COST OF DEVICE SALES
20
Cost of device sales consists of the cost of the hardware from the
hardware manufacturer or wholesaler. Cost of devices increased to $38.3 million
for the year ended December 31, 2001 from $7.3 million for the year ended
December 31, 2001 and from $105,000 for the year ended December 31, 1999. The
increase in the cost of device sales for 2001 relates primarily to the increase
in device sales between periods and the bulk sales of devices to other vendors.
Included in the results for 2001 are bulk sales of hardware at or below cost
made primarily to reduce inventory. Also included in cost of device sales for
2001 is an inventory write-down due to obsolescence and excess inventory of
$14.4 million. The increase in the cost of device sales in 2000 relates
primarily to the increase in device sales between periods.
(i) RESEARCH AND DEVELOPMENT EXPENSES
Research and development expenses consist primarily of cash compensation
and related costs for engineers engaged in research and development activities
and, to a lesser extent, costs of materials relating to these activities. We
expense research and development costs as we incur them. Research and
development expenses, including in-process research and development related to
acquisitions, increased to $63.9 million for the year ended December 31, 2001,
from $38.0 million for the year ended December 31, 2000, and from $2.6 million
for the year ended December 31, 1999. The increase in 2001 from 2000 was due to
the hiring of additional engineers and consultants for increased research and
development activities associated with the development of our software products,
mobile computing platforms, including Fusion, and wireless data services and a
full year of costs associated with engineers obtained in connection with
acquisitions made during 2000 . The increase in 2000 from 1999 was primarily due
to the hiring and acquiring of additional engineers and consultants for
increased research and development activities associated with the development of
our software products, mobile computing platforms and wireless data services. In
addition, we incurred charges of $7.9 million for in-process research and
development in connection with our acquisitions of Riverbed, Cerulean, RTS
Wireless, and IFX in 2000. We anticipate that our research and development
expenses will decrease in 2002 due to reductions in personnel that have occurred
since the beginning of 2001. For more information on our restructuring efforts
refer to the section entitled "Estimation of Restructuring Accrual" above.
(j) GENERAL AND ADMINISTRATIVE EXPENSES
General and administrative expenses consist primarily of cash
compensation and related costs for general corporate and business development
personnel, along with rent, network operations costs, and general support costs.
General and administrative expenses increased to $90.9 million for the year
ended December 31, 2001, from $52.9 million for the year ended December 31,
2000, and from $5.9 million for the year ended December 31, 1999. The increase
in 2001 was primarily due to additional personnel and consultants performing
general corporate activities, additional facilities and the full year of
operations of our acquisitions since the prior year. The increase in 2000 from
1999 was primarily due to additional personnel and consultants performing
general corporate activities, additional facilities and our acquisitions since
the prior year. The increased scope of our business required additional
personnel and other expenses, such as consulting, travel and facilities, in all
areas including: customer service, network operations, project management, legal
and accounting. We anticipate that our general and administrative expenses will
decrease in 2002 due to reductions in personnel that have occurred since the
beginning of 2001. For more information on our restructuring efforts refer to
the section entitled "Estimation of Restructuring Accrual" above.
(k) SELLING AND MARKETING EXPENSES
Selling and marketing expenses consist primarily of advertising and
promotions, sales and marketing personnel, travel and entertainment, certain
customer fulfillment and customer care costs. Selling and marketing expenses
increased to $66.8 million for the year ended December 31, 2001, from $54.2
million for the year ended December 31, 2000, and from $2.1 million for the year
ended December 31, 1999. The increase in selling and marketing expenses in 2001
was due primarily to the increased number of sales persons obtained in
connection with acquisitions and the related salaries, commissions, and other
costs incurred as a result of increased revenue for 2001. The increase in 2000
was primarily due to an increase in advertising and promotion costs, which
increased from $933,000 to $23.1 million for the years ended December 31, 1999
and 2000, respectively, including a nationwide broadcast and print branding
campaign, as well as increases in the number of sales and marketing personnel
primarily obtained through acquisitions. We anticipate that our selling and
marketing expenses will decrease in 2002 due to reductions in personnel that
have occurred since the beginning of 2001. For more information on our
restructuring efforts refer to the section entitled "Estimation of Restructuring
Accrual" above.
(l) DEPRECIATION AND AMORTIZATION
Depreciation and amortization expenses consist primarily of the
amortization of intangible assets obtained in connection with our acquisitions.
Depreciation and amortization expenses also include depreciation expenses
arising from equipment purchased for our network operations centers and other
property and equipment purchases. Depreciation and amortization decreased to
$180.7 million for the year ended December 31, 2001, from $238.1 million for the
year ended December 31, 2000, which represented an increase from $1.1 million
for the year ended December 31, 1999. The decrease in 2001 was mainly due to the
carrying value of the intangible assets being reduced by a $1.121 billion
impairment charge partially offset by a full year of amortization on
acquisitions
21
made at various times during 2000. Upon adoption of SFAS No. 142 on January 1,
2002, we will cease to amortize approximately $171.0 million of goodwill. We had
recorded approximately $117.6 million of amortization on these amounts during
2001 and would have recorded approximately $53.0 million of amortization during
2002. In lieu of amortization, we will be required to perform an impairment
review of our goodwill balance upon the initial adoption of SFAS No. 142. The
increase in 2000 over 1999 was primarily due to the amortization of intangibles
and goodwill relating to the acquisition of Riverbed, which accounted for $186.2
million of the expense in 2000, while $44.2 million related to our other
acquisitions.
(m) OPTION AND WARRANT EXPENSE
Option and warrant expense consists of expenses recorded to account for
the difference, on the date of grant, between the fair market value and the
exercise price of stock options issued to employees, restricted stock granted to
employees and the fair value of equity-based awards to non-employees. We have in
the past issued options and/or warrants at prices below market value in
connection with our acquisitions as replacements for existing options in the
acquired company. Given our numerous acquisitions since our inception and our
restricted stock plan, we expect to continue to have substantial option and
warrant expense. Option and warrant expense increased to $14.4 million for the
year ended December 31, 2001, from $14.3 million for the year ended December 31,
2000 which was a decrease from $19.2 million for the year ended December 31,
1999. The increase for 2001 was primarily due to the fact that in January 2001,
we canceled 2.5 million options granted to employees and issued approximately
756,000 shares of restricted stock to a number of employees holding options with
exercise prices higher than our then-current market value. We recognize option
and warrant expense as these shares vest. We expect to record $9.4 million of
expense over the vesting period of the restricted stock grants. During 2001, we
recorded expense of $5.9 million related to these restricted shares. This
increase was partially offset by some restricted shares expiring as employees
were terminated throughout the year pursuant to our cost containment efforts.
The decrease between 2000 and 1999 was due to our general policy subsequent to
our initial public offering of granting shares to employees at their fair value,
partially offset by options granted in connection with acquisitions at exercise
prices less than fair value on the date of grant.
(n) IMPAIRMENT OF INTANGIBLES
Impairment of intangibles expense consists of the amount of goodwill and
other intangibles, written down in accordance with SFAS 121, Accounting for the
Impairment of Long-Lived Assets and for Assets to Be Disposed Of. The impaired
goodwill related to our acquisitions of Riverbed Technologies, Inc., LocusOne
Communications, Inc., NetSearch, Inc. Cerulean Technology, Inc. SunPro, Inc.,
IFX and the related formation of Sila and RTS Wireless, Inc. Impairment of
intangibles increase to $1.121 billion in 2001 as a result of the write down of
goodwill and other intangibles obtained in connection with our acquisitions as
discussed in the section entitled "Impairment Charges". There was no impairment
of intangibles for 2000 or 1999.
(o) RESTRUCTURING CHARGE
The restructuring charge consists primarily of the costs that we
estimate we will incur associated with the plan we are implementing to
consolidate excess facilities and eliminate positions primarily from integrating
the functions at acquired companies. The restructuring charge was approximately
$45.0 million in 2001 as a result of the consolidation and closure of several
facilities during 2001 along with an associated reduction in work force. There
was no restructuring charge in 2000 or 1999. We expect to record additional
restructuring charges in 2002 as we continue to implement our restructuring
plan. At December 31, 2001 we had reserved $27.8 million for future cash
payments related to our restructuring. $15.5 million of the reserve is for
expenditures expected to be paid during 2002, and $12.3 million of the reserve
is for cash we are expecting to pay out in subsequent years. Subsequent to
December 31, 2001, as part of our ongoing expense reduction efforts, we further
consolidated use of our leased space and decreased total employment by
approximately 25%, or approximately 225 positions. We expect to record a
restructuring charge of approximately $11.0 million in the first quarter of 2002
relating to these actions.
(p) INTEREST INCOME
Interest income consists primarily of interest income from cash
equivalents and short-term investments. Net interest income decreased to $28.0
million for the year ended December 31, 2001 from $57.1 million for the year
ended December 31, 2000 which was an increase from an expense of $1.0 million
for the year ended December 31, 1999. The decrease in 2001 was primarily the
result of a decreasing cash balance over the year combined with decreased
interest rates. The increase between 2000 and 1999 was primarily due to an
increase in interest earned on cash and cash equivalents following the
completion of our secondary offering on March 17, 2000. We expect interest
income to continue to decline as our cash balance declines.
(q) INTEREST EXPENSE
Interest expense consists primarily of debt service on our outstanding
convertible subordinated notes payable. Interest expense increased to $19.3
million for the year ended December 31, 2001 from $14.7 million for the year
ended December 31, 2000 and from $1.2 million for the year ended December 31,
1999. The increase for 2001 was primarily due to a full year of interest on our
notes in 2001 and accrued interest on a $5.2 million forward sale arrangement
entered into during 2001. The increase for 2000 over 1999 was
22
primarily due to interest payable on our convertible subordinated notes payable
issued in March of 2000. We expect our interest expense to decline in 2002 as a
result of the buy-back of debt in 2001.
(q) EQUITY IN LOSSES OF INVESTMENTS
Equity in losses of investments consists of our proportionate share of
the net losses of OmniSky, Inciscent, MindSurf, VeriStar, Mobiya, and Spring
Wireless, which are recorded under the equity method of accounting. Equity in
losses of investments increased to $57.5 million for the year ended December 31,
2001 from $47.9 million for the year ended December 31, 2000, and from $2.4
million for the year ended December 31, 1999. The increase in 2001 was a result
of a full year of our proportionate share of the losses from Inciscent, MindSurf
and VeriStar coupled with a partial year of losses on Spring Wireless and Mobiya
which were new investments made in 2001. The increase in 2000 from 1999 related
to our proportionate share of losses from Inciscent, MindSurf, and VeriStar, in
which we invested during 2000 and a full year of proportionate share of losses
from Omnisky. We expect to continue to record equity losses in some or all of
these investments in future periods.
(r) INCOME TAX BENEFIT
Income tax benefit consists of a foreign deferred tax benefit associated
with the losses generated by Sila. Income tax benefit increased to $10.7 million
for 2001 from $1.6 million for the year ended December 31, 2000. There was no
income tax benefit for the year ended December 31, 1999. The increase for 2001
was due to a foreign deferred tax benefit associated with the impairment of
identifiable intangibles by Sila. We do not expect to record additional tax
benefits for the foreseeable future.
(s) MINORITY INTEREST
Minority interest consists wholly of Reuters' ownership interest in
Sila. Minority interest increased to $63.8 million for the year ended December
31, 2001 from $10.7 million for the year ended December 31, 2000, relating to
Reuters' proportional share of losses in Sila, which is consolidated into our
financial statements. The increase in 2001 was due to a full year of losses
generated by Sila which included a writeoff of Sila's goodwill and identifiable
intangibles due to impairment. There was no minority interest for the year ended
December 31, 1999.
(t) INVESTMENT LOSS, INCLUDING IMPAIRMENTS, NET
Investment loss including impairments consists of the loss taken on
investments where the decline in market value was deemed to be other than
temporary. Investment loss also includes amounts related to the decline in the
fair value of derivative instruments, offset by realized gains from the sales of
investments. During 2001, we recorded a net charge of $143.4 million, which
included $136.7 million in impairment charges related to our investments. The
remainder of the net charge related to net gains (losses) from the sales of
investments, and changes in the fair value of warrants. We had no investment
losses in 2000 or 1999. The increase in 2001 was mainly due to overall declining
market conditions.
(u) EXTRAORDINARY ITEM
The extraordinary item consists entirely of the gain realized from the
early extinguishment of $20.0 million in convertible subordinated notes payable.
Extraordinary item was $7.7 million for the year ended December 31, 2001
relating to the early extinguishment of $20.0 million of debt. There were no
extraordinary items in 2000 or 1999. Subsequent to December 31, 2001, we bought
back an additional $15.0 million of our convertible subordinated notes payable
and as such we expect to record an extraordinary gain on the early
extinguishment of debt in the first quarter of 2002.
(v) CUMULATIVE EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE
Cumulative effect of change in accounting principle was $6.6 million in
2001 relating to the adoption of SFAS No.133, "Accounting for Derivatives and
Hedging Activities". The $6.6 million represented the fair value of warrants we
hold in two of our investees which met the criteria for a derivative under SFAS
No. 133. There was no cumulative effect of change in accounting principle in
2000 or 1999.
MD&A (6) SEGMENT RESULTS
Our operating segments include Vertical Markets and European Operations.
The Vertical Markets segment provides wireless data services software and
engineering services to develop applications for the financial services, mobile
government, transportation and logistics, real estate, automobile and insurance
industries. European Operations consists of our European joint venture with
Reuters and has the majority of its customers in the European financial services
industry. Corporate and Other consists mainly of corporate assets and selling,
general and administrative expenses. We began to report our financial results by
segment as of the first quarter of 2000. During 2001 and 2000, our reportable
segments changed -- and we expect them to continue to change -- as our operating
23
structure, business and the market in which we operate evolves. In 1999, all of
our revenue was generated from what is now reported as our the Vertical Markets
Segment.
Vertical European Corporate and
Markets Operations Other Total
----------- ----------- ------------- -----------
YEAR ENDED
DECEMBER 31, 2001
- ------------------
Revenue $ 96,451 $ 12,997 $ 3,432 $ 112,880
Gross Profit (loss) $ 41,868 $ 5,506 $ (15,248) $ 32,126
Total Assets $ 316,746 $ 18,802 $ 613,872 $ 949,420
YEAR ENDED
DECEMBER 31, 2000
- ------------------
Revenue $ 44,671 $ 13,483 $ 0 $ 58,154
Gross Profit $ 21,818 $ 6,320 $ 0 $ 28,138
Total Assets $ 1,378,679 $ 178,001 $ 1,120,695 $ 2,677,375
The type of revenue we earn in each of our segments varies from segment
to segment.
Vertical Markets. We operate in a wide variety of vertical markets. Our
vertical markets segment can have subscriber revenue, engineering services
revenue, device sales and software and related services revenue depending on the
needs of the customer. Revenue in the vertical markets segment increased to
$96.5 million for the year ended December 31, 2001 from $44.7 million for the
year ended December 31, 2000. Gross profit in that segment increased to $41.9
million for the year ended December 31, 2001 from $21.8 million for the year
ended December 31, 2000. The increase in this segment was primarily due to an
increase of $14.0 million in revenue and $3.9 million in gross profit from sales
of our Mobile Max product line and an increase of $19.9 million in revenue and
$10.3 million in gross profit from sales of our PacketCluster software suite and
associated hardware. Mobile Max and PacketCluster were obtained in connection
with acquisitions made late in the third quarter and in the fourth quarter of
2000.
European Operations. Our European operations segment consists of Sila
and generates revenue from subscriber and engineering services. Sila was formed
in May 2000. Sila saw a reduction in revenues from 2000 to 2001 due to the
streamlining of our operations in Europe and the overall pullback in the
financial services sector.
Corporate & Other. Revenue in the Corporate & Other relates solely to
sales pursuant to our inventory reduction plan which provided for bulk sales of
inventory at prices below our cost. Negative gross profit in this segment was a
result both of the cost associated with the aforementioned revenue and inventory
obsolescence and excess inventory write downs of $14.4 million in 2001.
MD&A (6) LIQUIDITY AND CAPITAL RESOURCES
Since 1999, we have financed our operations primarily through private
and public placements of our equity and debt securities. Through December 31,
2001, we have raised aggregate net proceeds of approximately $1.5 billion
including the issuance of $310.5 million of 6% convertible subordinated notes.
As of December 31, 2001, we had approximately $529.9 million in cash and
short-term investments (including restricted cash of $5.3 million) and working
capital of approximately $503.9 million.
Net cash used in operating activities was $220.7 million, $63.8 million
and $12.1 million for the years ended December 31, 2001, 2000 and 1999,
respectively. The principal use of cash in each of these periods was to fund our
losses from operations.
Net cash used in investing activities was $120.0 million, $512.2 million
and $12.6 million for the years ended December 31, 2001, 2000 and 1999
respectively. For the year ended December 31, 2001, we used $42.0 million for
new investments in three companies and additional investments in five companies,
$38.5 million for the purchase of property and equipment and $33.8 million for
acquisition-related costs. For the twelve months ended December 31, 2000, we
used $48.3 million for the purchase of property and equipment, $158.4 million
for investments in 20 companies and $303.7 million to acquire LocusOne,
NetSearch,
24
Cerulean, SunPro, Sinope, Motient's retail transportation unit, RTS Wireless,
IFX and for the related formation of Sila, and Sila's subsequent acquisitions.
Cash used by investing activities for the year ended December 31, 1999 was
primarily for the purchase of property and equipment and the acquisition of
Mobeo partially offset by the sale of short-term investments.
Net cash provided by financing activities