Back to GetFilings.com

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q

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

For the Quarterly Period Ended September 30, 2002

Commission file number 0-26821

Focal Communications Corporation
(Exact name of registrant as specified in its charter)

200 N. LaSalle Street
Suite 1100
Chicago, IL 60601
(Address of principal executive offices, including zip code)

(312) 895-8400
(Registrant's telephone number)

        Indicate by check mark whether the registrant (1) has filed all reports to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or required 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 ý    No o

        The number of shares outstanding of the issuer's common stock, as of October 31, 2002:

        Common stock ($.01 par value) 4,935,829 shares

INDEX

2

INFORMATION REGARDING FORWARD-LOOKING STATEMENTS

        We make statements in this Quarterly Report on Form 10-Q that are not historical facts. These "forward-looking statements" can be identified by the use of terminology such as "believes," "expects," "may," "will," "should," "anticipates" or comparable terminology. These forward-looking statements include, among others, statements concerning:

•

Our business strategy and competitive advantages



•

Our anticipation of potential revenues



•

Statements regarding the growth of the telecommunications industry and our business



•

The market for our services and products



•

Forecasts of when we will enter particular markets or begin offering particular services



•

Our anticipated capital expenditures and funding requirements



•

Anticipated regulatory developments

        These statements are only predictions. You should be aware that these forward-looking statements are subject to risks and uncertainties, including financial and regulatory developments, industry growth and trend projections, that could cause actual events or results to differ materially from those expressed or implied by the statements. The most important factors that could prevent us from achieving our stated goals include, but are not limited to, our failure to:

•

Maintain acceptance of our services by new and existing customers



•

Attract and retain talented employees



•

Restructure or amend the terms of our existing debt to address our current defaults and future anticipated operating performance



•

Successfully introduce and expand our data and voice service offerings on a timely and cost-effective basis



•

Respond to competitors in our markets



•

Design, provision and install our network infrastructure, including transport facilities, Internet transit services, and unbundled loops



•

Execute and renew interconnection agreements with incumbent carriers on terms satisfactory to us



•

Enter into and maintain our agreements for transport facilities and services



•

Receive full and timely payments from customers



•

Prevail in legal and regulatory proceedings regarding inter-carrier revenue or changes to laws and regulations that govern inter-carrier revenue



•

Obtain and maintain any required governmental authorizations, franchises and permits, all in a timely manner, at reasonable costs and on satisfactory terms and conditions



•

Respond effectively to regulatory, legislative and judicial developments



•

Successfully respond to the current financial uncertainty facing other telecommunications carriers, which may affect our ability to receive full and timely payments and continued service from financially distressed carriers



•

Manage administrative, technical and operational issues presented by our business plan



•

Raise sufficient capital on acceptable terms on a timely basis

3

PART I—FINANCIAL INFORMATION

Item 1.    Financial Statements

FOCAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(Dollars in thousands, except per share amounts)

The accompanying condensed notes are an integral part
of these condensed consolidated financial statements.

4

FOCAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except share amounts)

The accompanying condensed notes are an integral part
of these condensed consolidated financial statements.

5

FOCAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(Dollars in thousands)

The accompanying condensed notes are an integral part
of these condensed consolidated financial statements.

6

FOCAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES
CONDENSED NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except share amounts)

1.    Basis of Presentation

        The accompanying interim condensed consolidated financial statements reflect all adjustments, consisting of normal recurring adjustments, which we believe are necessary to present fairly the financial statements in accordance with generally accepted accounting principles for the respective periods presented. Certain information and footnote disclosures normally included in the annual consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission for Form 10-Q. These interim condensed consolidated financial statements should be read in conjunction with our Annual Report on Form 10-K for the year ended December 31, 2001, filed on March 27, 2002. The consolidated balance sheet at December 31, 2001 included herein was derived from our audited consolidated financial statements, but does not include all disclosures required under generally accepted accounting principles.

        The accompanying condensed consolidated financial statements have been prepared on a going concern basis, which contemplates continuity of operations, realization of assets and repayment of liabilities in the ordinary course of business. However, as a result of the Company's default under the Senior Secured Credit Facility and other debt agreements (discussed more fully in Note 3), the realization of the Company's assets and repayment of its liabilities is subject to significant uncertainty. Negotiations with the Company's creditors could materially change the amounts and classifications reported in the consolidated financial statements, which do not give effect to any adjustments to the carrying value or classification of assets or liabilities that might be necessary as a consequence of any change in business strategy or business plans as a result of these negotiations.

        Certain prior-year amounts have been reclassified to conform to the current period presentation. All periods have been restated to reflect the 35:1 reverse stock split that was effective March 11, 2002 (see Note 6).

2.    Property, Plant and Equipment

        Long-lived assets are stated at cost, which includes direct costs and capitalized interest, and are depreciated once placed in service using the straight line method.

        Property, plant and equipment consists of the following:

7

3.    Debt

        Short-term debt, previously classified as long-term, consists of the following:

        Long-term debt consists of the following:

        We have borrowed a total of $93,000 under our $225,000 Senior Secured Credit Facility (the "Credit Facility") as of September 30, 2002. The interest on amounts drawn is variable based on our leverage ratio, as defined in the Credit Facility. The principal payments are scheduled to begin on November 30, 2003.

        On August 9, 2001 we announced a $430,000 comprehensive recapitalization plan (see Note 8). In conjunction with this Plan, we purchased $16,793 in principal amount of our Notes during August 2001. This early retirement of our Notes resulted in an after-tax extraordinary gain of $11,493 for the nine months ended September 30, 2001.

        We are currently in default on both the Credit Facility and the Secured equipment term loan ("Equipment loan"). The defaults relate to both minimum revenue and minimum EBITDA covenants in the third quarter of 2002. Because of the default, we have reclassified our indebtedness under the Credit Facility, the Equipment Loan, the 1998 Notes, the 2000 Notes and the Convertible notes to current on our consolidated balance sheet. We are currently in discussions with the senior lenders to resolve the default.

8

4.    Restructuring

        During the second half of 2001, we revised our business plan to reflect several initiatives which included; (1) the consolidation of our voice and data business units; (2) a 22 market business plan; (3) a refinement of our managed Internet access strategy; and (4) the scale back of our DSL initiatives. In conjunction with this revised business plan, we recorded charges of $26,498 in the third and fourth quarters of 2001 for the reduction of our workforce, the abandonment of excess network facilities, the write-off of related network assets and other related costs. The $26,498 was composed of $14,425 in network fixed asset write-downs, $9,897 in abandonment of excess network facilities, $1,328 in employee severance costs and $848 in other related charges. In the first quarter of 2002 we recorded an additional charge of $1,316 as a result of an adjustment to the previously estimated restructuring costs. The $1,316 is composed of $895 in cash paid for the abandonment of excess network facilities and $421 in network fixed asset write-downs. For the nine months ended September 30, 2002 amounts paid associated with the abandonment of excess network facilities, employee severance, and other related charges totaled $2,744, $190, and $109, respectively. The unpaid restructuring costs of $2,148 as of December 31, 2001 are included in accrued liabilities in our consolidated balance sheet. There are no unpaid restructuring costs remaining as of September 30, 2002.

5.    Loss Per Share

        We compute basic loss per common share based on the weighted average number of shares of common stock outstanding for the period. This calculation excludes certain unvested shares of restricted common stock. Diluted earnings per common share are adjusted for the assumed exercise of dilutive stock options and unvested shares of restricted common stock, and as-converted preferred stock and notes. Since the results of the adjustments required for the diluted weighted average common shares outstanding are anti-dilutive for the three and nine months ended September 30, 2002 and 2001, they have been excluded from the net loss per share calculation. Our basic and diluted weighted average number of shares outstanding for the three and nine months ended September 30, 2002 and 2001 is as follows:

6.    Equity Transactions

        On February 25, 2002, our Board of Directors approved a 35:1 reverse split of our common stock. Par value of our common stock remained at $.01 per share. The split was effective March 11, 2002. The effect of the stock split has been recognized retroactively in the shareholders' equity accounts on our consolidated balance sheets and in all share and per share data in the accompanying condensed consolidated financial statements and notes to condensed consolidated financial statements. Shareholders' equity accounts have been restated to reflect the reclassification of an amount equal to the par value of the decrease in issued common shares from the common stock account to the additional paid-in capital account.

9

        During the first quarter of 2002 we issued 352,857 shares of restricted common stock to certain management employees. As of October 31, 2002, 187,143 shares remain unvested, 75,000 shares have vested and 90,714 shares have been returned to the Company due to employee departures. The restricted stock grant resulted in total non-cash compensation of approximately $1,500 which will be ratably charged to income over the vesting period. The stock will vest 25% on January 1, 2003 and 12.5% every six months for the following three years.

        During March 2002, we granted 248,787 stock options to employees and executive officers under our 1998 Equity and Performance Plan. The stock options were granted at $4.53 per share, the fair market value on the date of the grant, and will vest 25% on January 1, 2003 and 12.5% every six months thereafter.

7.    Segment Information

        We currently operate solely in the United States and are organized primarily on the basis of strategic geographic operating segments that provide communications services in each respective geographic region. All of our geographic operating segments have been aggregated into one reportable segment as of September 30, 2002 and December 31, 2001 and for the nine months ended September 30, 2002 and 2001.

        Our chief operating decision-makers view earnings before interest, income taxes, depreciation and amortization ("EBITDA") as the primary measure of profit and loss. The following represents information about revenue, EBITDA (which excludes non-cash compensation and restructuring costs) and capital expenditures for the nine months ended September 30, 2002 and 2001:

        The following reconciles our total segment EBITDA to our consolidated net loss for the nine months ended September 30, 2002 and 2001:

10

        Total assets for the reportable segment were $441,606 and $518,825 as of September 30, 2002 and December 31, 2001, respectively. The following reconciles our total segment assets to our consolidated total assets as of September 30, 2002 and December 31, 2001: