Attached files

file filename
EX-31.1 - EX-31.1 - Inteliquent, Inc.iqnt-ex311_7.htm
EX-32.1 - EX-32.1 - Inteliquent, Inc.iqnt-ex321_8.htm
EX-31.2 - EX-31.2 - Inteliquent, Inc.iqnt-ex312_6.htm
EX-10.2 - EX-10.2 - Inteliquent, Inc.iqnt-ex102_225.htm
EX-10.1 - EX-10.1 - Inteliquent, Inc.iqnt-ex101_201.htm

 

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

Form 10-Q

 

x

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

For the quarterly period ended September 30, 2015

OR

¨

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

For the transition period from                    to                    

Commission file number: 001-33778

 

INTELIQUENT, INC.

(Exact name of registrant as specified in its charter)

 

 

Delaware

 

31-1786871

(State or other Jurisdiction of

Incorporation or Organization)

 

(IRS Employer

Identification No.)

550 West Adams Street

Suite 900

Chicago, IL 60661

(Address of principal executive offices, including zip code)

(312) 384-8000

(Registrant’s telephone number, including area code)

 

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 whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer

 

¨

 

Accelerated filer

 

x

 

 

 

 

Non-accelerated filer

 

¨  (Do not check if a smaller reporting company)

  

Smaller reporting company

 

¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x

As of October 9, 2015, 33,754,838 shares of the registrant’s Common Stock, $0.001 par value, were issued and outstanding.

 

 

 

 

 

 


 

INTELIQUENT, INC.

INDEX

 

 

 

 

Page

 

PART I. FINANCIAL INFORMATION

 

 

 

Item 1.

 

Financial Statements

 

 

 

 

 

 

 

Condensed Consolidated Balance Sheets (Unaudited) as of September 30, 2015 and December 31, 2014

 

3

 

 

 

 

 

Condensed Consolidated Statements of Income (Unaudited) for the Three and Nine Months Ended September 30, 2015 and September 30, 2014

 

4

 

 

 

 

 

Condensed Consolidated Statements of Cash Flows (Unaudited) for the Nine Months Ended September 30, 2015 and September 30, 2014

 

5

 

 

 

 

 

Notes to Condensed Consolidated Financial Statements (Unaudited)

 

6

 

 

 

Item 2.

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

14

 

 

 

Item 3.

 

Qualitative and Quantitative Disclosure about Market Risk

 

22

 

 

 

Item 4.

 

Controls and Procedures

  

23

 

PART II. OTHER INFORMATION

 

 

 

Item 1.

 

Legal Proceedings

  

24

 

 

 

Item 1A.

 

Risk Factors

 

24

 

 

 

Item 2.

 

Unregistered Sales of Equity Securities and Use of Proceeds

 

24

 

 

 

Item 3.

 

Default Upon Senior Securities

 

24

 

 

 

Item 4.

 

Mine Safety Disclosure

 

24

 

 

 

Item 5.

 

Other Information

 

24

 

 

 

Item 6.

 

Exhibits

 

25

 

 

 

2


 

PART I. FINANCIAL INFORMATION

INTELIQUENT, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

 

 

September 30,

 

 

December 31,

 

(In thousands, except per share amounts)

2015

 

 

2014

 

ASSETS

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

Cash and cash equivalents

$

112,077

 

 

$

104,737

 

Receivables — net of allowance of $2,526 and $2,336, respectively

 

38,763

 

 

 

32,766

 

Deferred income taxes-current

 

 

 

 

836

 

Prepaid expenses

 

5,414

 

 

 

2,198

 

Other current assets

 

705

 

 

 

1,320

 

Total current assets

 

156,959

 

 

 

141,857

 

Property and equipment—net

 

36,097

 

 

 

23,678

 

Restricted cash

 

345

 

 

 

345

 

Deferred income taxes-noncurrent

 

5,644

 

 

 

3,284

 

Other assets

 

1,147

 

 

 

1,007

 

Total assets

$

200,192

 

 

$

170,171

 

LIABILITIES AND SHAREHOLDERS’ EQUITY

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

Accounts payable

$

1,592

 

 

$

1,607

 

Accrued liabilities:

 

 

 

 

 

 

 

Taxes payable

 

883

 

 

 

1,263

 

Network and facilities

 

15,219

 

 

 

7,266

 

Rent

 

1,941

 

 

 

2,015

 

Payroll and related items

 

5,351

 

 

 

3,079

 

Other

 

1,442

 

 

 

897

 

Deferred income taxes-current

 

175

 

 

 

 

Total current liabilities

 

26,603

 

 

 

16,127

 

Shareholders’ equity:

 

 

 

 

 

 

 

Preferred stock—par value of $.001; 50,000 authorized shares; no shares issued and outstanding at

   September 30, 2015 and December 31, 2014

 

 

 

 

 

Common stock—par value of $.001; 150,000 authorized shares; 33,736 shares and 33,458 shares

   issued and outstanding at September 30, 2015 and December 31, 2014, respectively

 

34

 

 

 

33

 

Less treasury stock, at cost; 3,351 shares at September 30, 2015 and December 31, 2014

 

(51,668

)

 

 

(51,668

)

Additional paid-in capital

 

222,828

 

 

 

217,628

 

Retained earnings (Accumulated deficit)

 

2,395

 

 

 

(11,949

)

Total shareholders’ equity

 

173,589

 

 

 

154,044

 

Total liabilities and shareholders' equity

$

200,192

 

 

$

170,171

 

 

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

 

 

3


 

INTELIQUENT, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF INCOME

(Unaudited)

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

 

September 30,

 

 

September 30,

 

 

(In thousands, except per share amounts)

2015

 

 

2014

 

 

2015

 

 

2014

 

 

Revenue

$

63,716

 

 

$

54,045

 

 

$

171,656

 

 

$

165,143

 

 

Operating expense:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Network and facilities expense (excluding depreciation and

   amortization)

 

34,858

 

 

 

23,016

 

 

 

78,918

 

 

 

71,035

 

 

Operations

 

7,955

 

 

 

7,432

 

 

 

22,966

 

 

 

21,941

 

 

Sales and marketing

 

690

 

 

 

1,048

 

 

 

2,098

 

 

 

2,542

 

 

General and administrative

 

4,648

 

 

 

3,645

 

 

 

14,145

 

 

 

12,699

 

 

Depreciation and amortization

 

2,894

 

 

 

2,985

 

 

 

8,137

 

 

 

9,136

 

 

(Gain) loss on sale of property and equipment

 

(4

)

 

 

2

 

 

 

(120

)

 

 

(29

)

 

Loss on sale of Americas data assets

 

 

 

 

 

 

 

 

 

 

1,081

 

 

Total operating expense

 

51,041

 

 

 

38,128

 

 

 

126,144

 

 

 

118,405

 

 

Income from operations

 

12,675

 

 

 

15,917

 

 

 

45,512

 

 

 

46,738

 

 

Other expense (income):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

9

 

 

 

18

 

 

 

36

 

 

 

37

 

 

Other income

 

 

 

 

 

 

 

(1,290

)

 

 

(2

)

 

Total other expense (income)

 

9

 

 

 

18

 

 

 

(1,254

)

 

 

35

 

 

Income before provision for income taxes

 

12,666

 

 

 

15,899

 

 

 

46,766

 

 

 

46,703

 

 

Provision for income taxes

 

4,399

 

 

 

6,123

 

 

 

17,317

 

 

 

18,286

 

 

Net income

$

8,267

 

 

$

9,776

 

 

$

29,449

 

 

$

28,417

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

$

0.25

 

 

$

0.30

 

 

$

0.88

 

 

$

0.87

 

 

Diluted

$

0.24

 

 

$

0.29

 

 

$

0.86

 

 

$

0.86

 

 

Weighted average number of shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

33,620

 

 

 

33,115

 

 

 

33,562

 

 

 

32,743

 

 

Diluted

 

34,138

 

 

 

33,343

 

 

 

34,057

 

 

 

33,033

 

 

Dividends paid per share:

$

0.15

 

 

$

0.15

 

 

$

0.45

 

 

$

0.30

 

 

 

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

 

 

4


 

INTELIQUENT, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

 

 

Nine Months Ended

 

 

September 30,

 

(In thousands)

2015

 

 

2014

 

Operating

 

 

 

 

 

 

 

Net income

$

29,449

 

 

$

28,417

 

Adjustments to reconcile net income to net cash flows provided by operating activities:

 

 

 

 

 

 

 

Depreciation and amortization

 

8,137

 

 

 

9,136

 

Deferred income taxes

 

(1,349

)

 

 

345

 

Gain on sale of property and equipment

 

(120

)

 

 

(29

)

Loss on sale of Americas data assets

 

 

 

 

1,081

 

Gain on settlement of Tinet escrow

 

(1,290

)

 

 

 

Non-cash share-based compensation

 

4,049

 

 

 

3,268

 

Provision for uncollectible accounts

 

211

 

 

 

1,826

 

Excess tax benefit associated with share-based payments

 

(1,299

)

 

 

(896

)

Changes in assets and liabilities:

 

 

 

 

 

 

 

Receivables

 

(6,203

)

 

 

(10,926

)

Other current assets

 

(2,619

)

 

 

(1,340

)

Other noncurrent assets

 

(140

)

 

 

210

 

Accounts payable

 

331

 

 

 

(162

)

Accrued liabilities

 

12,924

 

 

 

(138

)

Net cash provided by operating activities

 

42,081

 

 

 

30,792

 

Investing

 

 

 

 

 

 

 

Purchase of property and equipment

 

(20,943

)

 

 

(6,279

)

Proceeds from sale of property and equipment

 

173

 

 

 

41

 

Increase in restricted cash

 

 

 

 

(220

)

Net cash used for investing activities

 

(20,770

)

 

 

(6,458

)

Financing

 

 

 

 

 

 

 

Proceeds from the exercise of stock options

 

869

 

 

 

7,728

 

Restricted shares withheld to cover employee taxes paid

 

(1,034

)

 

 

(686

)

Dividends paid

 

(15,105

)

 

 

(9,900

)

Excess tax benefit associated with share-based payments

 

1,299

 

 

 

896

 

Net cash used for financing activities

 

(13,971

)

 

 

(1,962

)

Net increase in cash and cash equivalents

 

7,340

 

 

 

22,372

 

Cash and cash equivalents — Beginning

 

104,737

 

 

 

77,004

 

Cash and cash equivalents — Ending

$

112,077

 

 

$

99,376

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

 

 

Cash paid for taxes

$

20,058

 

 

$

20,053

 

Cash paid for interest

$

 

 

$

 

Supplemental disclosure of noncash flow items:

 

 

 

 

 

 

 

Investing activity — Accrued purchases of property and equipment

$

1,002

 

 

$

1,410

 

 

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

 

 

 

5


 

INTELIQUENT, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

1. DESCRIPTION OF THE BUSINESS

Organization — Inteliquent, Inc. (the “Company”) provides voice telecommunications services primarily on a wholesale basis. The Company offers these services using an all-IP network, which enables the Company to deliver global connectivity for a variety of media, including voice and, historically, data and video. The Company’s solutions enable carriers and other providers to deliver voice traffic or other services where they do not have their own network or elect not to use their own network. These solutions are sometimes called “off-net” services. We also provide our solutions to customers, such as “over-the-top” providers, who also typically do not have their own network.

On April 30, 2013, the Company completed its divestiture of the global data business. The agreement governing the sale contained certain provisions governing post-closing adjustments to the purchase price. During the year ended December 31, 2014, the Company recorded a $1.1 million loss on the sale of the global data business as a result of the settlement with the buyer regarding the purchase price adjustments.

During the three months ended March 31, 2015, the Company received a $1.3 million payment from an escrow fund that had been established in connection with the Company’s purchase of the Tinet global data business in 2010.  The Company received this payment as a result of a settlement with the sellers of Tinet.  The settlement related to a dispute regarding the Company’s claim that certain tax liabilities were not properly represented to the Company at the time the transaction closed. This payment was recorded as other income in the Company’s Condensed Consolidated Statements of Income for the three months ended March 31, 2015 and the nine months ended September 30, 2015, and as an operating cash inflow in the Condensed Consolidated Statements of Cash Flows for the nine months ended September 30, 2015.

 

 

2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Principles of Consolidation — The condensed consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.

Interim Condensed Consolidated Financial Statements — The accompanying condensed consolidated balance sheets as of September 30, 2015 and December 31, 2014, the condensed consolidated statements of income for the three months and nine months ended September 30, 2015 and 2014, and the condensed consolidated statements of cash flows for the nine months ended September 30, 2015 and 2014 are unaudited. The condensed consolidated balance sheet data as of December 31, 2014 was derived from the audited consolidated financial statements which are included in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2014. The accompanying condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and related notes contained in the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2014.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) pursuant to the rules and regulations of the Securities and Exchange Commission applicable to interim periods. Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations.

In the opinion of management, the unaudited interim condensed consolidated financial statements as of September 30, 2015 and for the three months and nine months ended September 30, 2015 and 2014 have been prepared on the same basis as the audited consolidated statements and reflect all adjustments, which are normal recurring adjustments, necessary for the fair presentation of its statement of financial position, results of operations and cash flows. The results of operations for the three months and nine months ended September 30, 2015 are not necessarily indicative of the operating results for any subsequent quarter, for the full fiscal year or any future periods.

Cash and Cash Equivalents — The Company considers all highly liquid investments with an original maturity of 90 days or less to be cash and cash equivalents. The carrying values of the Company’s cash and cash equivalents approximate fair value. At September 30, 2015, the Company had $15.2 million of cash in banks and $96.9 million in four money market mutual funds. At December 31, 2014, the Company had $32.9 million of cash in banks and $71.8 million in three money market mutual funds.

6


 

Fair Value Measurements — Certain assets and liabilities are required to be recorded at fair value on a recurring basis. Fair value is determined based on the exchange price that would be received for an asset or paid to transfer a liability (an exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants. Assets measured at fair value on a nonrecurring basis include long-lived assets held and used. The fair value of cash and cash equivalents, accounts receivable and accounts payable approximate their carrying values. The three-tier fair value hierarchy, which prioritizes valuation methodologies based on the reliability of the inputs, is:

Level 1— Valuations based on quoted prices for identical assets and liabilities in active markets.

Level 2— Valuations based on observable inputs other than quoted prices included in Level 1, such as quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets and liabilities in markets that are not active, or other inputs that are observable or can be corroborated by observable market data.

Level 3— Valuations based on unobservable inputs reflecting the Company’s own assumptions, consistent with reasonably available assumptions made by other market participants.

Accounts Receivable and Allowance for Doubtful Accounts — Accounts receivable consist of trade receivables recorded upon recognition of revenue from sales of voice services, reduced by reserves for estimated bad debts. Trade accounts receivable are recorded at the invoiced amount and do not bear interest. Credit is extended based on evaluation of the customer’s financial condition. We make judgments as to our ability to collect outstanding receivables and provide allowances for a portion of receivables when collection becomes doubtful. The specific identification method is applied to all significant outstanding invoices to determine this provision. Our allowance for doubtful accounts was $2.5 million and $2.3 million at September 30, 2015 and December 31, 2014, respectively.

Property and Equipment — Property and equipment is recorded at cost. These values are depreciated over the estimated useful lives of the individual assets using the straight-line method. Any gains and losses from the disposition of property and equipment are included in operations as incurred. The estimated useful life for network equipment and tools and test equipment is five years. The estimated useful life for computer equipment, computer software and furniture and fixtures is three years. Leasehold improvements are amortized on a straight-line basis over an estimated useful life of five years or the life of the lease, whichever is less. As discussed below, the impairment of long-lived assets is periodically evaluated when events or changes in circumstances indicate that a potential impairment has occurred.

Long-lived Assets — The carrying value of long-lived assets, including property and equipment, are reviewed whenever events or changes in circumstances indicate that the related carrying amounts may not be recoverable. Impairment of assets with definite lives is generally determined by comparing projected undiscounted cash flows to be generated by the asset, or appropriate grouping of assets, to its carrying value. If an impairment is identified, a loss is recorded equal to the excess of the asset’s net book value over its fair value. The fair value becomes the new cost basis of the asset. Determining the extent of an impairment, if any, typically requires various estimates and assumptions including using management’s judgment, cash flows directly attributable to the asset, the useful life of the asset and residual value, if any. In addition, the remaining useful life of the impaired asset is revised, if necessary. There were no property and equipment or intangible asset impairment charges in 2014 or during the three months and nine months ended September 30, 2015.

Revenue Recognition — The Company generates revenue from sales of its voice services. The Company maintains tariffs and executed service agreements with each of its customers in which specific fees and rates are determined. One customer agreement contains multiple voice service elements and is accounted for as a multiple-element arrangement under Accounting Standards Codification (“ASC”) topic 605-25 Revenue Recognition- Multiple Element Arrangements. Following the requirements of ASC 605-25, the Company evaluated the multiple-element arrangement to determine which deliverables represented separate units of accounting and then allocated consideration to each unit of accounting based on their selling prices using relative fair values.  Some of these deliverables are treated as non-monetary transactions which are also recorded at fair value.  Voice revenue is recorded each month on an accrual basis, when collection is probable, based upon minutes of traffic switched by the Company’s network by each customer, which is referred to as minutes of use. Certain customer agreements contain multiple elements that are treated as non-monetary transactions which the Company records at fair value.

Earnings per Share — Basic earnings per share is computed based on the weighted average number of common shares and participating securities outstanding. Diluted earnings per share is computed based on the weighted average number of common shares and participating securities outstanding adjusted by the number of additional shares that would have been outstanding during the period had the potentially dilutive securities been issued.

7


 

The following table presents a reconciliation of the numerators and denominators of basic and diluted earnings per share of common stock based upon the two-class method:

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

September 30,

 

 

September 30,

 

(In thousands, except per share amounts)

2015

 

 

2014

 

 

2015

 

 

2014

 

Numerator:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

$

8,267

 

 

$

9,776

 

 

$

29,449

 

 

$

28,417

 

Denominator:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares outstanding

 

33,620

 

 

 

33,115

 

 

 

33,562

 

 

 

32,743

 

Effect of dilutive securities:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock options and performance stock units

 

518

 

 

 

228

 

 

 

495

 

 

 

290

 

Denominator for diluted earnings per share

 

34,138

 

 

 

33,343

 

 

 

34,057

 

 

 

33,033

 

Earnings per share - net income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic - as reported

$

0.25

 

 

$

0.30

 

 

$

0.88

 

 

$

0.87

 

Diluted - as reported

$

0.24

 

 

$

0.29

 

 

$

0.86

 

 

$

0.86

 

 

Certain awards were not included in the computation of diluted earnings per share because the effect would have been antidilutive. Outstanding share-based awards of 0.7 million for both the three and nine months ended September 30, 2015 were considered antidilutive. Outstanding share-based awards of 1.5 million for both the three and nine months ended September 30, 2014 were considered antidilutive.

The undistributed earnings allocable to participating securities were less than $0.1 million and $0.2 million for both the three months and nine months ended September 30, 2015, respectively.    

Accounting for Stock-Based Compensation — The Company records stock-based compensation expense related to stock options, non-vested shares and performance stock units based on fair value. The amount of non-cash share-based expense recorded in the three months ended September 30, 2015 and 2014 was $1.3 million and $1.2 million, respectively. The amount of non-cash share-based expense recorded in the nine months ended September 30, 2015 and 2014 was $4.0 million and $3.3 million, respectively.  Refer to Note 5, “Stock Options, Non-Vested Shares and Performance Stock Units.”

The fair value of stock options is determined using the Black-Scholes valuation model. This model takes into account the exercise price of the stock option, the fair value of the common stock underlying the stock option as measured on the date of grant and an estimation of the volatility of the common stock underlying the stock option. Such value is recognized as expense over the service period, net of estimated forfeitures, using the straight line method.

The fair value of non-vested shares is measured based upon the quoted closing market price for the stock on the date of grant. The compensation cost is recognized on a straight-line basis over the vesting period.

The fair value of each performance stock unit granted is estimated using a Monte Carlo pricing model. The Monte Carlo simulation model is based on a discounted cash flow approach, with the simulation of a large number of possible stock price outcomes for the Company’s stock and the applicable index. This model considers a risk-free interest rate, historical stock volatility, correlations of returns, and expected life. The risk-free interest rate reflects the yield on a U.S. Treasury bond commensurate with the expected life of the performance stock unit. The Company uses historic volatility and correlations to value awards. Market and service conditions must both be met in order for the performance stock units to vest.  As such, compensation cost will be recognized on a straight-line basis over the vesting period.  Except for termination of an individual’s service by the Company without cause in certain circumstances, termination of an individual’s service prior to fulfilling the requisite service period will result in forfeiture of units and compensation cost will be reversed.  In the event the participant’s employment is terminated without cause and more than half of the performance period has passed, the number of performance stock units issued shall be adjusted proportionately to the number of days of service rendered in the performance period over the total performance period. 

The estimation of stock awards that will ultimately vest requires judgment, and to the extent actual results or updated estimates differ from the Company’s current estimates, such amounts will be recorded as a cumulative adjustment in the period estimates are revised. The Company considers many factors when estimating expected forfeitures, including types of awards, employee class and historical experience. Actual results, and future changes in estimates, may differ from the Company’s current estimates.

Recent Accounting Pronouncements — In May 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) No. 2014-09, Revenue from Contracts with Customers, which outlines a single comprehensive model for

8


 

entities to use in accounting for revenue arising from contracts with customers and supersedes most current revenue recognition guidance, including industry-specific guidance. The ASU is based on the principle that an entity should recognize revenue to depict the transfer of goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. The ASU also requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to fulfill a contract. Entities have the option of using either a full retrospective or a modified retrospective approach for the adoption of the new standard. The ASU is effective for annual reporting periods beginning after December 15, 2017 and early adoption as of December 15, 2016 is permitted. The Company is currently assessing the impact of this standard on the Company’s condensed consolidated financial statements or disclosures.

In April 2015, the FASB issued ASU No. 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Cost, which requires debt issuance costs related to a recognized debt liability, be presented in the balance sheet as a direct deduction from the carrying amount of the related debt liability instead of being presented as an asset. Debt disclosures will include the face amount of the debt liability and the effective interest rate. This ASU requires retrospective application and represents a change in accounting principle. This ASU is effective for fiscal years beginning after December 15, 2015, and early adoption is permitted for financial statements that have not been previously issued. The Company has assessed the impact of this standard and does not believe that it will have a material impact on the Company’s condensed consolidated financial statements or disclosures.

In June 2015, the FASB issued ASU No. 2015-10, Technical Corrections and Improvements, which covers a wide range of topics in the FASB Accounting Standards Codification (the “Codification”). The amendments in this update represent changes to clarify the Codification, correct unintended application of guidance, or make minor improvements to the Codification that are not expected to have a significant effect on current accounting practice or create a significant administrative cost on most entities. The amendments in this ASU are effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2015 and early adoption is permitted. The Company is currently assessing the impact of this standard on the Company’s condensed consolidated financial statements or disclosures.

 

 

3. LEGAL PROCEEDINGS

From time to time, the Company is a party to legal proceedings arising in the normal course of its business. Aside from the matters discussed below, the Company does not believe that it is a party to any pending legal action that could reasonably be expected to have a material effect on its business or operating results, financial position or cash flows.

OTT Access Charge Dispute

On November 18, 2011, the Federal Communications Commission (the “FCC”) issued an order establishing, among other things, an intercarrier compensation framework for the exchange of switched access traffic.  In its order, the FCC attempted to clarify the circumstances under which local exchange carriers are eligible to receive access charges when they deliver access traffic in partnership with entities that provide service using so-called Voice over Internet Protocol, or (“VoIP”) technology.  The FCC determined that, under certain circumstances, local exchange carriers are eligible to receive access charges when delivering access traffic in partnership with VoIP providers.  The FCC has referred to its determination on this issue as the “VoIP Symmetry Rule.”

Subsequent to the FCC’s November 2011 order, further disputes developed within the industry concerning the interpretation of the VoIP Symmetry Rule.  A number of long-distance carriers took the position that, notwithstanding the VoIP Symmetry Rule, local exchange carriers were still not eligible to receive access charges when delivering access traffic in partnership with VoIP providers that deliver service using so-called over-the-top, or (“OTT”) technology. 

On February 11, 2015, the FCC released an order clarifying that, pursuant to its VoIP Symmetry Rule, local carriers are entitled to receive access charges when delivering access traffic in partnership with VoIP providers that utilize OTT technology under certain circumstances.  This order has been appealed to a federal appellate court.  We have disputes with a number of long distance carriers regarding the payment of access charges relating to the origination and termination of traffic to VoIP providers that utilize OTT technology.  Management has made judgments as to our ability to collect based on known facts and circumstances and has only recorded revenue when collection has been deemed reasonably assured.

 

 

4. INCOME TAXES

Income taxes were computed using an effective tax rate, which is subject to ongoing review and evaluation by the Company. The Company’s estimated effective income tax rate was 34.7% and 37.0% for the three months and nine months ended September 30,

9


 

2015, compared to 38.5% and 39.2% for the three months and nine months ended September 30, 2014.  The Company’s estimated effective income tax rate varies from the statutory federal income tax rate of 35% primarily due to the impact of state income taxes.

The decrease in the Company’s effective income tax rate for both the three and nine months ended September 30, 2015, as compared to both the three and nine months ended September 30, 2014, was primarily due to various federal and state provision adjustments associated with the filing of the Company’s prior year tax returns.  Excluding these discrete adjustments, the Company’s effective rate for both the three and nine months ended September 30, 2015 would have approximated 38.0%.

The Company has recorded a valuation allowance against the capital loss created by the sale of its global data business and the Illinois EDGE Credit. The Company believes it is more likely than not that these assets will not be fully realized in the foreseeable future. The realization of deferred tax assets is dependent upon whether the Company can generate future taxable income in the appropriate character and jurisdiction to utilize the assets. The amount of the deferred tax assets considered realizable is subject to adjustment in future periods.

The Company files U.S. federal, state and local income tax returns in the jurisdictions in which it is required to do so.  With few exceptions, the Company is no longer subject to an audit of its tax filings for years before 2010.  The Internal Revenue Service (“IRS”) has commenced an examination of the Company’s 2013 federal income tax return.  As of September 30, 2015, the IRS has not proposed any material adjustments to such income tax return.  Audit outcomes and timing of audit settlements are subject to significant uncertainty.  It is reasonably possible that within the next twelve months, the Company will resolve any matters that may arise during the audit of the Company’s 2013 federal income tax return.

 

 

5. STOCK OPTIONS, NON-VESTED SHARES AND PERFORMANCE STOCK UNITS

The Company established the 2003 Stock Option and Stock Incentive Plan (the “2003 Plan”), which provided for the issuance of up to 4.7 million options, non-vested shares, and performance stock units to directors, employees and other individuals (whether or not employees) who render services to the Company. In 2007, the Company adopted the Neutral Tandem, Inc. 2007 Long-Term Equity Incentive Plan (the “2007 Plan”) and ceased awarding equity grants under the 2003 Plan. As of September 30, 2015, the Company had granted a total of 1.6 million options, 0.3 million non-vested shares, and 0.1 million performance stock units that remained outstanding under the 2007 Plan. Awards for 2.1 million shares, representing approximately 6.2% of the Company’s outstanding common stock as of September 30, 2015, remained available for additional grants under the 2007 Plan.

Options

All options granted under the 2003 Plan and the 2007 Plan have an exercise price equal to the market value of the underlying common stock on the date of the grant. During the three months ended September 30, 2015, the Company did not grant any options. During the nine months ended September 30, 2015, the Company granted 0.1 million options at a weighted average exercise price of $17.02. During the three months ended September 30, 2014, the Company did not grant any options.  During the nine months ended September 30, 2014, the Company granted less than 0.1 million options at a weighted average exercise price of $13.86.

The fair value of each option granted is estimated on the date of grant using the Black-Scholes option-pricing model.  The following table summarizes the assumptions used for estimating the fair value of options for the nine months ended September 30, 2015 and September 30, 2014:

 

 

September 30,

 

 

September 30,

 

 

2015

 

 

2014

 

Expected life

7.0 years

 

 

7.2 years

 

Risk-free interest rate

 

1.9%

 

 

 

2.1%

 

Expected dividends

 

3.9%

 

 

 

2.1%

 

Volatility

 

49.6%

 

 

 

60.0%

 

 

The weighted average fair value of options granted, as determined by using the Black-Scholes valuation model, during the nine months ended September 30, 2015 and 2014 was $6.03 and $6.90, respectively. The total grant date fair value of options that vested during the nine months ended September 30, 2015 and 2014 was approximately $0.6 million and $0.9 million, respectively. The total intrinsic value (market value of stock option less option exercise price) of stock options exercised was $2.7 million and $3.0 million during the nine months ended September 30, 2015 and 2014, respectively.

10


 

A summary of the Company’s stock option activity and related information for the nine months ended September 30, 2015 is as follows:

 

 

 

 

 

 

Weighted

 

 

Aggregate

 

 

Weighted

 

 

 

 

 

 

Average

 

 

Intrinsic

 

 

Average

 

 

Shares

 

 

Exercise

 

 

Value

 

 

Remaining

 

 

(000)

 

 

Price

 

 

($000)

 

 

Term (yrs)

 

Options outstanding — January 1, 2015

 

1,715

 

 

$

12.97

 

 

 

 

 

 

 

 

 

Granted

 

124

 

 

 

17.02

 

 

 

 

 

 

 

 

 

Exercised

 

(177

)

 

 

4.92

 

 

 

 

 

 

 

 

 

Cancelled

 

(87

)

 

 

5.33

 

 

 

 

 

 

 

 

 

Options outstanding — September 30, 2015

 

1,575

 

 

$

14.57

 

 

$

12,233

 

 

 

4.43

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Vested or expected to vest — September 30, 2015

 

1,570

 

 

$

14.57

 

 

$

12,184

 

 

 

4.41

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Exercisable — September 30, 2015

 

1,284

 

 

$

15.72

 

 

$

8,493

 

 

 

3.61

 

 

The unrecognized compensation cost associated with options outstanding at September 30, 2015 and December 31, 2014 was $1.0 million and $0.9 million, respectively. The weighted average remaining term that the compensation will be recorded is 2.9 years and 2.1 years as of September 30, 2015 and December 31, 2014, respectively.

Non-vested Shares

During the three and nine months ended September 30, 2015, the Company granted zero and 0.2 million of non-vested shares, respectively, to members of the Company’s executive management team as well as various employees within the Company. During the three and nine months ended September 30, 2014, the Company granted less than 0.1 million and 0.2 million of non-vested shares, respectively, to members of the Company’s executive management team as well as various employees within the Company. The non-vested shares were issued as part of the 2007 Plan. The shares typically vest over a period ranging from upon date of grant to four years. The fair value of the non-vested shares is determined using the Company’s closing stock price on the grant date. Compensation cost, measured using the grant date fair value, is recognized over the requisite service period on a straight-line basis.

A summary of the Company’s non-vested share activity and related information for the nine months ended September 30, 2015 is as follows:

 

 

 

 

 

 

Weighted

 

 

Aggregate

 

 

 

 

 

 

Average

 

 

Intrinsic

 

 

Shares

 

 

Grant Date

 

 

Value

 

 

(000)

 

 

Fair Value

 

 

($000)

 

Non-vested shares outstanding — January 1, 2015

 

396

 

 

$

10.87

 

 

 

 

 

Granted

 

168

 

 

 

17.10

 

 

 

 

 

Vested

 

(215

)

 

 

12.52

 

 

 

 

 

Cancelled

 

(8

)

 

 

3.41

 

 

 

 

 

Non-vested shares outstanding — September 30, 2015

 

341

 

 

$

13.08

 

 

$

7,615

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-vested shares vested or expected to vest —September 30, 2015

 

321

 

 

$

13.08

 

 

$

7,168

 

 

The aggregate intrinsic value represents the total pre-tax intrinsic value based on the Company’s closing stock price of $22.33 on September 30, 2015. The amount changes based upon the fair market value of the Company’s common stock.

The unrecognized compensation cost associated with non-vested shares was $3.3 million at both September 30, 2015 and December 31, 2014. The weighted average remaining term that the compensation will be recorded was 2.2 years and 2.0 years as of September 30, 2015 and December 31, 2014, respectively.

Performance Stock Units

During the three and nine months ended September 30, 2015, the Company awarded zero and 0.1 million performance stock units, respectively, to members of the Company’s executive management team. These performance stock units represent a target number of shares (“Target Award”) of the Company’s common stock that the recipient would receive upon the Company’s attainment

11


 

of the applicable performance goal. These performance stock units were issued in three tranches under the 2007 Plan. Performance is determined based on total shareholder return (“TSR”) during an 18-month, two- and three-year performance period for each of the three tranches, respectively. At the end of the performance period, the performance stock units will be distributed (to the extent earned and vested) in shares of the Company’s common stock based upon the level of achievement of the Company’s TSR performance targets set for the performance periodsAwards are payable on a graduated basis based on thresholds that measure the Company's performance relative to peers that comprise the applicable index on which each years' awards are measured. Awards can be paid up to 200% of the Target Award or forfeited with no payout if performance is below a minimum established performance threshold.  In the event the participant’s employment is terminated without cause and more than half of the performance period has passed, the number of performance stock units issued shall be adjusted proportionately to the number of days of service rendered in the performance period over the total performance period.   

A summary of the Company’s performance stock unit activity and related information for the nine months ended September 30, 2015 is as follows:

 

 

Performance

 

 

Weighted

 

 

Stock

 

 

Average

 

 

Units

 

 

Grant Date

 

 

(000)

 

 

Fair Value

 

Performance stock units outstanding — January 1, 2015

 

 

 

$

 

Granted

 

119

 

 

 

22.94

 

Vested

 

 

 

 

 

Cancelled

 

 

 

 

 

Performance stock units outstanding — September 30, 2015

 

119

 

 

$

22.94

 

 

The unrecognized compensation cost associated with performance stock units outstanding at September 30, 2015 was $2.0 million. The weighted average remaining term that the compensation will be recorded is 1.8 years as of September 30, 2015.

On January 16, 2015, the Company announced that Mr. Evans would be departing as its Chief Executive Officer in connection with the upcoming expiration of his employment agreement. On March 20, 2015, Mr. Evans entered into an interim employment agreement effective as of April 1, 2015. Under the interim employment agreement, Mr. Evans continued to serve as the Company’s Chief Executive Officer on an interim basis during a term that commenced on April 1, 2015 (the “Interim Employment Period”).  The interim employment agreement provided for an annual salary of $1,029,600 and no discretionary annual incentive cash bonus.

 

On June 5, 2015, the Company announced that it had appointed Matthew Carter, Jr. to serve as its new Chief Executive Officer, and, as a result, Mr. Evans’ employment with the Company terminated effective June 22, 2015.  Upon the termination of the Interim Employment Period (subject to Mr. Evans entering into a customary agreement releasing the Company from all claims, demands and causes of action (the “General Release”)) the Company became obligated to pay to Mr. Evans any unpaid base salary through the date of termination, any accrued vacation pay and severance equal to twelve months’ base salary at the annual salary rate of $514,800. In addition, upon the termination of the Interim Employment Period (subject to Mr. Evans entering into the General Release), any unvested equity awards received by Mr. Evans that would have vested within eighteen (18) months of the termination date of the interim employment agreement become immediately vested. Also, any stock option awards that become vested pursuant to the interim employment agreement will expire six (6) months after the termination date.   During the nine months ended September 30, 2015, the Company recorded $0.5 million of severance expense and $0.1 million in accelerated non-cash compensation related to the termination of Mr. Evans’ employment with the Company.

 

 

12


 

6. FAIR VALUE MEASUREMENT

The Company’s money market funds are recognized and disclosed at fair value in the financial statements on a recurring basis. Fair value is defined as the price that would be received to sell an asset in an orderly transaction between market participants as of the measurement date. Fair value is measured using the fair value hierarchy and related valuation methodologies as defined in the authoritative literature. This guidance specifies a hierarchy of valuation techniques based on whether the inputs to each measurement are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect the Company’s assumptions about current market conditions. The prescribed fair value hierarchy and related valuation methodologies are as follows:

Level 1 - Quoted prices for identical instruments in active markets.

Level 2 - Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active and model-derived valuations, in which all significant inputs are observable in active markets.

Level 3 - Valuations derived from valuation techniques, in which one or more significant inputs are unobservable.

The fair value of the Company’s financial asset by level in the fair value hierarchy as of September 30, 2015 and December 31, 2014 was as follows:

 

September 30, 2015

Level 1

 

 

Level 2

 

 

Level 3

 

 

Total

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Money Market Funds

$

96,853

 

 

$

 

 

$

 

 

$

96,853

 

 

December 31, 2014

Level 1

 

 

Level 2

 

 

Level 3

 

 

Total

 

Assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Money Market Funds

$

71,836

 

 

$

 

 

$

 

 

$

71,836

 

 

Valuation methodology

Level 1—Quoted market prices in active markets are available for investments in money market funds. As such, these investments are classified within Level 1.

 

 

7. CREDIT FACILITY

On March 5, 2013, the Company entered into a $15.0 million revolving credit facility. The credit facility has a term of three years and an interest rate of LIBOR + 3.25%. The Company may use any borrowings under the revolving credit facility for general corporate purposes. No obligations were outstanding under the revolving credit facility during the nine months ended September 30, 2015 or at any time during the year ended December 31, 2014. As of September 30, 2015, the Company is currently in compliance with all of the covenants of the credit facility agreement.

 

 

8. SEGMENT AND GEOGRAPHIC INFORMATION

Segment reporting establishes standards for reporting information about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and in assessing performance.

The Company’s chief operating decision maker is the Chief Executive Officer. The Chief Executive Officer reviews financial information presented on a consolidated basis. The Company operates in one industry segment which is to provide voice interconnection services via the Company’s telecommunications network to fulfill customer agreements. Therefore, the Company has concluded that it has one operating segment.

 

 

 

13


 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

This Quarterly Report on Form 10-Q contains “forward-looking statements” that involve substantial risks and uncertainties. All statements, other than statements of historical fact, included in this Quarterly Report on Form 10-Q are forward-looking statements. The words “anticipates,” “believes,” “efforts,” “expects,” “estimates,” “projects,” “proposed,” “plans,” “intends,” “may,” “will,” “would,” and similar expressions are intended to identify forward-looking statements, although not all forward-looking statements contain these identifying words. Actual results or events could differ materially from the plans, intentions and expectations disclosed in the forward-looking statements we make. Factors that might cause such differences include, but are not limited to: the effects of competition, including direct connects, and downward pricing pressure resulting from such competition; our regular review of strategic alternatives; the impact of current and future regulation, including intercarrier compensation reform enacted by the FCC; our ability to perform under the agreement we announced with T-Mobile USA. Inc. on August 17, 2015 (the “PSTN Agreement”), including the risk that the traffic we carry under the PSTN Agreement will not meet our targets for profitability, including EBITDA and Adjusted EBITDA, that we incur damages or similar costs if we fail to meet certain terms in the PSTN Agreement, or that T-Mobile terminates the PSTN Agreement; the risk that our costs to perform under the PSTN Agreement will be higher than we expect; the risks associated with our ability to successfully develop and market new voice services, many of which are beyond our control and all of which could delay or negatively affect our ability to offer or market new voice services; the ability to develop and provide other new services; technological developments; the ability to obtain and protect intellectual property rights; the impact of current or future litigation; the potential impact of any future acquisitions, mergers or divestitures; natural or man-made disasters; the ability to attract, develop and retain executives and other qualified employees; changes in general economic or market conditions; matters arising out of or related to the impairment charge and financial forecasting practices that were the subject of an investigation by the Company’s Audit Committee; and other important factors included in our reports filed with the Securities and Exchange Commission, particularly in the “Risk Factors” section of our Annual Report on Form 10-K for the fiscal year ended December 31, 2014, our Quarterly Report on Form 10-Q for the period ended March 31, 2015 and included elsewhere in this report, as such risk factors may be updated from time to time in subsequent reports. Furthermore, such forward-looking statements speak only as of the date of this report. We undertake no obligation to update any forward-looking statements to reflect events or circumstances after the date of such statements.

Overview

We provide voice telecommunications services primarily on a wholesale basis. We offer these services using an all-IP network, which enables us to deliver global connectivity for a variety of media, including voice, and historically data and video. Our solutions enable carriers and other providers to deliver voice telecommunications traffic or other services where they do not have their own network or elect not to use their own network. These solutions are sometimes called “off-net” services. We also provide our solutions to customers, such as “over-the-top” providers, who also typically do not have their own network. We were incorporated in Delaware on April 19, 2001 and commenced operations in 2004.

On April 30, 2013, we completed our divestiture of the global data business. The agreement governing the sale contained certain provisions governing post-closing adjustments to the purchase price. During the year ended December 31, 2014, we recorded a $1.1 million loss on the sale of the global data business as a result of the settlement with the buyer regarding the purchase price adjustments.

On August 17, 2015 we announced that we had entered into a three-year agreement with T-Mobile US, Inc., under which we will provide a full suite of IP voice services to T-Mobile. The PSTN Agreement provides that T-Mobile will generally use our company as its sole provider of voice interconnection services for all calls exchanged between T-Mobile and nearly all other voice providers in the United States (excluding certain traffic, including among other things, traffic that is exchanged with other providers over peering arrangements, etc.). We have experienced a significant increase in the volume of traffic carried on our network as a result of the PSTN Agreement.  Consequently, this will significantly increase our revenue and operating expenses for the remainder of 2015 and beyond. The PSTN Agreement is attached hereto as Exhibits 10.1 and 10.2.  

14


 

Our Voice Services

We provide the following voice services:

 

·

Local Transit Service. Prior to the commencement of our operations in 2004, competitive carriers generally had two alternatives to send local voice traffic to other competitive carriers’ networks: sending the traffic indirectly through the tandems of an Incumbent Local Exchange Carrier (“ILEC”) or directly through connected switch pairs, commonly referred to as “direct connects.”  We established our company to offer an alternative to these options and better facilitate the exchange of local traffic between competitive carriers by using our tandem switches instead of the ILECs’ tandems or direct connects.  Since initially marketing our local transit service in several major markets, we have expanded our coverage and now provide local transit service in almost all markets in the contiguous United States, Hawaii and Puerto Rico.

 

·

Long Distance Service.  In 2006, we installed a national IP backbone network connecting our major local markets and began offering long distance services. Our long distance service allows us to carry long distance traffic that originates from our local or non-carrier customers in one market and terminates in another market.  When we provide this service, we are operating as an interexchange carrier.

 

·

Switched Access Service. In 2008, we began offering terminating switched access and originating switched access services. Switched access services are provided in connection with long distance calls. Our terminating switched access service allows interexchange carriers to send calls to us, and we then terminate those calls to the appropriate terminating carrier in the local market in which we operate. Our originating switched access service allows the originating carrier in the local market in which we operate to send calls to us that we then deliver to the appropriate interexchange carrier that has been selected to carry that call. In both instances, the interexchange carrier is our customer and is financially responsible for the call.

 

·

International Voice Service.  As we began interconnecting with certain non-U.S. carriers in 2010, we began terminating voice traffic that originated outside of the U.S. and terminated on the networks of carriers located in the U.S.  When we provide this service, we are operating as an interexchange carrier.  Our customer is the non-U.S. carrier that originates the call.

 

·

Direct Inward Dialing Service.  In 2012, we began to market Direct Inward Dialing (“DID”) service primarily to various non-carriers, including conference calling providers, calling card companies and interconnected VoIP providers.   As part of our DID offering, we assign telephone numbers to these non-carriers and then terminate voice traffic, such as conference calling or calling card traffic, that is destined to the telephone numbers that we have assigned to those non-carriers.  In addition to receiving payment from our non-carrier customers for the provision of the DID service, an interexchange carrier will pay us switched access charges for terminating long distance traffic on our network, while a local exchange carrier may owe us reciprocal compensation charges for terminating local traffic on our network.

 

·

8XX (Toll-Free) Service.   In 2014, we began offering 8XX service. We market this service to customers that seek to provide a caller with the ability to call them on a toll-free basis.  Although many enterprises purchase toll-free services, we are initially marketing these services primarily to call centers or other non-enterprise users.  When we provide this service, we are operating as an interexchange carrier.

Regulatory Treatment of Certain Intercarrier Compensation

We receive intercarrier compensation from interexchange carriers when we receive terminating access traffic from those long distance carriers. The intercarrier compensation we receive is based either on agreements we have with the respective carriers or rates set forth in our tariffs.

On November 18, 2011, the FCC issued an order establishing, among other things, an intercarrier compensation framework for terminating switched access traffic.  Under the framework, when an end user subscribes to a local carrier’s services, most intercarrier compensation that the local carrier receives from interexchange carriers for terminating switched access traffic will be reduced to zero over a transition period which began on July 1, 2012 and concludes on July 1, 2018. 

Where a carrier only provides the terminating tandem access service, or intermediate interconnection between the interexchange carrier and the terminating local carrier, the tandem provider’s rates are not reduced to zero under the FCC’s November 18, 2011 order.  However, under the FCC’s order, the intercarrier compensation that the tandem carrier receives for terminating this switched access traffic was capped at the interstate rate in effect as of July 1, 2013.    

15


 

In connection with our switched access services and our DID service, we provide terminating access service in both of the manners described above. We earn the majority of our terminating access service revenue from providing intermediate terminating tandem access service, where the rates will not be reduced to zero, as opposed to providing terminating service for traffic bound for end users that we serve, where the rates will be reduced to zero. Several states, industry groups and other telecommunications carriers filed petitions in federal court seeking to overturn the FCC’s framework, in whole or in part.  The federal appellate court affirmed the FCC’s framework in all respects.

The Need for Our Services

Prior to the introduction of our local voice service, competitive carriers generally had two alternatives for exchanging traffic with other carriers’ networks. The two alternatives were exchanging traffic through the ILEC tandems or directly connecting individual switches, commonly referred to as “direct connects.” Given the cost and complexity of establishing direct connects, competitive carriers often elected to utilize the ILEC tandem as the method of exchanging traffic. The ILECs typically required competitive carriers to interconnect to multiple ILEC tandems with each tandem serving a restricted geographic area. In addition, as the competitive telecommunications market grew, the process of establishing interconnections at multiple ILEC tandems became increasingly difficult to manage and maintain, causing delays and inhibiting the growth of competitive carriers while the purchase of ILEC tandem services became an increasingly significant component of a competitive carrier’s costs.

The tandem switching services offered by ILECs consist of local transit services, which are provided in connection with local calls, and switched access services, which are provided in connection with long distance calls. Under certain interpretations of the Telecommunications Act of 1996 and implementing regulations, ILECs are required to provide local transit services to competitive carriers. ILECs generally set per minute rates and other charges for tandem transit services according to rate schedules approved by state public utility commissions, although the methodology used to review these rate schedules varies from state to state. ILECs are also required to offer switched access services to competing telecommunications carriers under the Telecommunications Act of 1996 and implementing regulations. ILECs generally set per minute rates and other charges for switched access services according to mandated rate schedules set by the FCC for interstate calls and by state public utility commissions for intrastate calls. In November 2011, the FCC released an order setting forth a multi-year transition plan that will reduce, and ultimately lead to elimination of, terminating switched access charges. For a further discussion on the FCC’s order, see “Regulatory Treatment of Certain Intercarrier Compensation” above. Our solution enables competitive carriers to exchange traffic between their networks without using an ILEC tandem for both local and long distance calls.

Before we commenced operations, a loss of ILEC market share to competitive carriers escalated competitive tensions and resulted in an increased demand for tandem switching. Growth in intercarrier traffic switched through ILEC tandems created switch capacity shortages known in the industry as ILEC “tandem exhaust,” where overloaded ILEC tandems became a bottleneck for competitive carriers. This increased call blocking and gave rise to service quality issues for competitive carriers.

We established our company to solve these interconnection problems and better facilitate the exchange of traffic among competitive carriers and non-carriers. With the introduction of our service, we believe we became the first carrier to provide alternative tandem services capable of alleviating the ILEC tandem exhaust problem. Our solution enables competitive carriers to exchange traffic between their networks without using an ILEC tandem for both local and long distance calls. By utilizing our managed tandem service, our customers benefit from a simplified interconnection network solution that reduces costs, increases network reliability, decreases competitive tension and adds network diversity and redundancy.

Following the introduction of our local transit services, we began to face competition from other non-ILEC carriers, including Level 3, Hypercube and Peerless Network. Over the past several years, intensified competition has led to reduced minutes of use and caused us to charge materially lower rates in various markets, including with respect to our major customers in our largest markets. Moreover, as previously noted, the other alternative for exchanging traffic prior to the commencement of our operations was for competitive carriers to install direct connections between their switches. Despite the development of a competitive tandem market, this alternative still exists, and in fact, we believe that our customers are frequently establishing direct connections between their networks, even for what might be considered, by historical standards, to be lower traffic switch pair combinations, for various reasons, including to eliminate paying a transit fee to us or one of our competitors.

We have entered into voice services agreements with major competitive carriers and non-carriers and we operated in 190 markets as of September 30, 2015. Generally, these agreements do not provide for minimum revenue requirements and do not require our customers to continue to use our services.

16


 

Revenue

We generate revenue from sales of our voice services. We maintain tariffs and executed service agreements with each of our customers in which specific fees and rates are determined. Voice revenue is recorded each month on an accrual basis, when collection is reasonably assured, based upon minutes of traffic switched by the network by each customer, which is referred to as minutes of use.

Minutes of use of voice traffic increase as we increase our number of customers, increase the penetration of existing markets, either with new customers or with existing customers, and increase our service offerings. The minutes of use decrease due to direct connection between existing customers, consolidation between customers, a customer using a different provider or a customer experiencing a decrease in the volume of traffic it originates or receives.

The average fee per minute of voice traffic varies depending on market forces and type of service, such as switched access or local transit. The market rate in each market is based upon competitive conditions along with the switched access or local transit rates offered by the ILECs. Depending on the markets we enter, we may enter into contracts with our customers with either a higher or lower fee per minute than our current average.

Our service solution incorporates other components beyond switching. In addition to switching, we generally provision trunk circuits between our customers’ switches and our network locations at our own expense and at no direct cost to our customers. We also provide quality of service monitoring, call records and traffic reporting and other services to our customers as part of our service solution. Our per-minute rates are intended to incorporate all of these services.

While generally not seasonal in nature, our voice revenues are affected by certain events such as holidays, the unpredictable timing of direct connects between our customers, and installation and implementation delays. These factors can cause our revenue to both increase or decrease unexpectedly.

Operating Expenses

Operating expenses includes network and facilities expense, operations expenses, sales and marketing expenses, general and administrative expenses, depreciation and amortization, gain (loss) on sale of property and equipment, and loss on sale of Americas data assets.

Network and Facilities Expenses. Our network and facilities expenses includes transport capacity, or circuits, signaling network costs, facility rents and utilities, and costs to terminate our traffic, together with other costs that directly support the physical location where we house our switch, which is referred to in the industry as a point of presence (“POP”).  Our network and facilities expenses primarily include costs we pay to third parties to terminate traffic on their networks. We do not defer or capitalize any costs associated with the start-up of a new POP. The start-up of an additional POP can take between three months to six months. During this time, we typically incur facility rent, utilities, payroll and related benefit costs along with initial non-recurring installation costs. Revenues generally follow sometime after the sixth month.

Network transport costs typically occur on a repeating monthly basis, which we refer to as recurring transport costs, or on a one-time basis, which we refer to as non-recurring transport costs. Recurring transport costs primarily include monthly usage and other charges from telecommunication carriers and are related to the third-party circuits utilized by us to carry traffic to or from our customers. As our traffic increases, we must utilize additional circuits. Non-recurring transport costs primarily include the initial installation of such circuits. Facility rents include the leases on our POPs, which expire through March 2026. For some types of voice traffic, we also pay monthly recurring charges to the originating carrier that sends the call to us and/or to the terminating carrier when we terminate calls on their network.  Additionally, we pay the cost of all the utilities for all of our POP locations.

Operations Expenses. Operations expenses includes payroll and benefits for our POP location personnel as well as individuals located at our offices who are directly responsible for maintaining and expanding our network. Other primary components of operations expenses include repair and maintenance, software licenses, property taxes, property insurance, professional fees and supplies.

Sales and Marketing Expenses. Sales and marketing expenses represents the smallest component of our operating expenses and primarily include personnel costs, sales bonuses, marketing programs and other costs related to travel and customer meetings.

General and Administrative Expenses. General and administrative expenses consists primarily of compensation and related costs for personnel and facilities associated with our executive, finance, human resource and legal departments as well as fees for professional services and bad debt expense. Professional services principally consist of outside legal, audit, and tax service fees and may occasionally include consulting and transaction costs.

17


 

Depreciation and Amortization Expense. Depreciation and amortization expense for voice-related fixed assets is applied using the straight-line method over the estimated useful lives of the assets after they are placed in service, which are five years for network equipment and test equipment, and three years for computer equipment, computer software and furniture and fixtures. Leasehold improvements are amortized on a straight-line basis over an estimated useful life of five years or the life of the respective leases, whichever is shorter.

Gain (Loss) on Sale of Property and Equipment. We dispose of network equipment in connection with converting to new technology and computer equipment to replace old or damaged units. When there is a carrying value of these assets, we record the write-off of these amounts to loss on disposal. In some cases, this equipment is sold to a third party. When the proceeds from the sale of equipment identified for disposal exceeds the asset’s carrying value, a gain on disposal is recorded.

Loss on Sale of Americas Data Assets. During the three months ended March 31, 2014, we recorded a $1.1 million loss on sale of Americas data assets as a result of the settlement with the buyer. Refer to Note 1 “Description of the Business” for more information regarding the sale of the global data business.

Total Other Expense (Income). Total other expense (income) includes interest income and expense as well as other income and expense.

Provision for Income Taxes. The provision for income taxes includes U.S. federal, state and local income taxes and is based on pre-tax income. In determining the estimated annual effective income tax rate, we analyze various factors, including projections of our annual earnings and taxing jurisdictions in which earnings will be generated, the impact of state and local income taxes and our ability to use tax credits and net operating loss carryforwards.

Critical Accounting Policies and Estimates

The preparation of our financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses during the periods presented. Our Annual Report on Form 10-K for the fiscal year ended December 31, 2014, which we filed with the Securities and Exchange Commission on February 26, 2015, includes a summary of the critical accounting policies we believe are the most important to aid in understanding our financial results. There have been no changes to those critical accounting policies that have had a material impact on our reported amounts of assets, liabilities, revenues or expenses during the first nine months of 2015.

18


 

Results of Operations

The following table sets forth our results of operations for the three months and nine months ended September 30, 2015 and 2014:

 

 

Three Months Ended

 

 

Nine Months Ended

 

 

September 30,

 

 

September 30,

 

(Dollars in thousands)

2015

 

 

2014

 

 

2015

 

 

2014

 

Revenue

$

63,716

 

 

$

54,045

 

 

$

171,656

 

 

$

165,143

 

Operating expense:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Network and facilities expense (excluding depreciation

   and amortization)

 

34,858

 

 

 

23,016

 

 

 

78,918

 

 

 

71,035

 

Operations

 

7,955

 

 

 

7,432

 

 

 

22,966

 

 

 

21,941

 

Sales and marketing

 

690

 

 

 

1,048

 

 

 

2,098

 

 

 

2,542

 

General and administrative

 

4,648

 

 

 

3,645

 

 

 

14,145

 

 

 

12,699

 

Depreciation and amortization

 

2,894

 

 

 

2,985

 

 

 

8,137

 

 

 

9,136

 

(Gain) loss on sale of property and equipment

 

(4

)

 

 

2

 

 

 

(120

)

 

 

(29

)

Loss on sale of Americas data assets

 

 

 

 

 

 

 

 

 

 

1,081

 

Total operating expense

 

51,041

 

 

 

38,128

 

 

 

126,144

 

 

 

118,405

 

Income from operations

 

12,675

 

 

 

15,917

 

 

 

45,512

 

 

 

46,738

 

Other expense (income):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

9

 

 

 

18

 

 

 

36

 

 

 

37

 

Other income

 

 

 

 

 

 

 

(1,290

)

 

 

(2

)

Total other expense (income)

 

9

 

 

 

18

 

 

 

(1,254

)

 

 

35

 

Income before provision for income taxes

 

12,666

 

 

 

15,899

 

 

 

46,766

 

 

 

46,703

 

Provision for income taxes

 

4,399

 

 

 

6,123

 

 

 

17,317

 

 

 

18,286

 

Net income

$

8,267

 

 

$

9,776

 

 

$

29,449

 

 

$

28,417

 

 

Three Months Ended September 30, 2015 Compared to Three Months Ended September 30, 2014

Revenue. Revenue increased to $63.7 million in the three months ended September 30, 2015 from $54.0 million in the three months ended September 30, 2014, representing an increase of 18.0%.

The increase in voice revenue is primarily due to a 15.2% increase in the minutes of use to 40.2 billion minutes for the three months ended September 30, 2015, compared to 34.9 billion minutes for the three months ended September 30, 2014. Additionally, there was a 2.6% increase in the average rate per minute of $0.00159 for the three months ended September 30, 2015, compared to the average rate per minute of $0.00155 for the three months ended September 30, 2014. The increase in the minutes of use is primarily due to the increased traffic we are carrying as a result of the PSTN Agreement.

Operating Expenses. Operating expenses for the three months ended September 30, 2015 increased 33.9% to $51.0 million, an increase of $12.9 million, compared to $38.1 million for the three months ended September 30, 2014. The components of operating expenses are discussed as follows.

Network and Facilities Expenses. Network and facilities expenses increased to $34.9 million in the three months ended September 30, 2015, or 54.8% of revenue, compared to $23.0 million in the three months ended September 30, 2014, or 42.6% of revenue. The increase of $11.9 million was primarily due to an increase in traffic resulting from the PSTN Agreement, and the costs associated with provisioning transport capacity in anticipation of traffic volume growth in the coming quarters. The cost as a percent of revenue increased during the three months ended September 30, 2015, as a result of an increase in the costs we pay to third parties to terminate certain long distance traffic.

Operations Expenses. Operations expenses increased to $8.0 million in the three months ended September 30, 2015, or 12.6% of revenue, compared to $7.4 million in the three months ended September 30, 2014, or 13.7% of revenue. The increase of $0.6 million primarily resulted from an increase in employee related costs due to additional headcount required to support the PSTN Agreement.

Sales and Marketing Expenses. Sales and marketing expenses decreased to $0.7 million in the three months ended September 30, 2015, or 1.1% of revenue, compared to $1.0 million in the three months ended September 30, 2014, or 1.9% of revenue. The decrease of $0.3 million was primarily due to a decrease in marketing costs.

19


 

General and Administrative Expenses. General and administrative expenses increased to $4.6 million in the three months ended September 30, 2015, or 7.2% of revenue, compared to $3.6 million in the three months ended September 30, 2014, or 6.7% of revenue. The increase of $1.0 million was primarily the result of higher employee related costs related to additional headcount and higher professional services fees.

Depreciation and Amortization Expense. Depreciation and amortization expense decreased to $2.9 million in the three months ended September 30, 2015, or 4.6% of revenue, compared to $3.0 million in the three months ended September 30, 2014, or 5.6% of revenue. Despite the recent increase in capital expenditures, which occurred primarily in the later part of the third quarter, our in-service asset base for the three months ended September 30, 2015 was still smaller than the asset base for the same period last year, thereby resulting in a lower depreciation and amortization expense of $0.1 million.  

Gain (Loss) on Sale of Property and Equipment. Gain on sale of property and equipment was less than $0.1 million for the three months ended September 30, 2015 and loss on sale of property and equipment was less than $0.1 million for the three months ended September 30, 2014.

Total Other Expense (Income). Total other expense (income) was less than $0.1 million for the three months ended September 30, 2015 and 2014.

Provision for Income Taxes. The provision for income taxes of $4.4 million for the three months ended September 30, 2015 reflected a decrease of $1.7 million, compared to $6.1 million for the three months ended September 30, 2014. The effective tax rate for the three months ended September 30, 2015 and 2014 was 34.7% and 38.5%, respectively. The decrease in the Company’s effective income tax rate for the three months ended September 30, 2015, as compared to the three months ended September 30, 2014, was primarily due to various federal and state provision adjustments associated with the filing of the Company’s prior year tax returns.  Excluding these discrete adjustments, the Company’s effective rate for the three months ended September 30, 2015 would have approximated 38.0%.

Nine Months Ended September 30, 2015 Compared to Nine Months Ended September 30, 2014

Revenue. Revenue increased to $171.7 million in the nine months ended September 30, 2015 from $165.1 million in the nine months ended September 30, 2014, representing an increase of 4.0%.

The increase in voice revenue is primarily due to a 7.4% increase in minutes to 109.7 billion minutes for the nine months ended September 30, 2015, compared to 102.1 billion minutes for the nine months ended September 30, 2014.  The increase in the minutes of use was partially offset by a 3.7% decrease in the average rate per minute of $0.00156 for the nine months ended September 30, 2015, compared to the average rate per minute of $0.00162 for the nine months ended September 30, 2014. The increase in the minutes of use is primarily due to the increased traffic we are carrying as a result of the PSTN Agreement.

Operating Expenses. Operating expenses for the nine months ended September 30, 2015 increased 6.5% to $126.1 million, an increase of $7.7 million, compared to $118.4 million for the nine months ended September 30, 2014. The components of operating expenses are discussed as follows.

Network and Facilities Expenses. Network and facilities expenses increased to $78.9 million in the nine months ended September 30, 2015, or 46.0% of revenue, compared to $71.0 million in the nine months ended September 30, 2014, or 43.0% of revenue. The increase of $7.9 million was primarily due to an increase in traffic resulting from the PSTN Agreement, and the costs associated with provisioning transport capacity in anticipation of traffic volume growth in the coming quarters. The cost as a percent of revenue increased during the nine months ended September 30, 2015, as a result of an increase in the costs we pay to third parties to terminate certain long distance traffic.

Operations Expenses. Operations expenses increased to $23.0 million in the nine months ended September 30, 2015, or 13.4% of revenue, from $21.9 million in the nine months ended September 30, 2014, or 13.3% of revenue. The increase of $1.1 million primarily resulted from an increase in employee costs due to additional headcount required to support the PSTN Agreement, partially offset by decreases in taxes.

Sales and Marketing Expenses. Sales and marketing expenses decreased to $2.1 million in the nine months ended September 30, 2015, or 1.2% of revenue, compared to $2.5 million in the nine months ended September 30, 2014, or 1.5% of revenue.  The decrease of $0.4 million was primarily due to a decrease in marketing costs.

20


 

General and Administrative Expenses. General and administrative expenses increased to $14.1 million in the nine months ended September 30, 2015, or 8.2% of revenue, compared to $12.7 million in the nine months ended September 30, 2014, or 7.7% of revenue. The increase of $1.4 million was primarily due to a non-recurring charge for the resolution of certain employee matters, employee related costs due to additional headcount and higher professional fees.  These increases were partially offset by a decrease in bad debt expense.

Depreciation and Amortization Expense. Depreciation and amortization expense decreased to $8.1 million in the nine months ended September 30, 2015, or 4.7% of revenue, compared to $9.1 million in the nine months ended September 30, 2014, or 5.5% of revenue. Despite the recent increase in capital expenditures, which occurred primarily in the later part of the third quarter, our in-service asset base for the nine months ended September 30, 2015 was still smaller than the asset base for the same period last year, thereby resulting in a lower depreciation and amortization expense of $1.0 million.

Gain (Loss) on Sale of Property and Equipment. Gain on sale of property and equipment was $0.1 million and less than $0.1 million for the nine months ended September 30, 2015 and 2014, respectively.

Loss on Sale of Americas Data Assets. During the nine months ended September 30, 2014, we recorded a $1.1 million loss on sale of the Americas data assets as a result of the settlement with the buyer.  Refer to Note 1 “Description of the Business” for more information regarding the sale of the global data business.

Total Other Expense (Income). Total other income for the nine months ended September 30, 2015 was $1.3 million, compared to less than $0.1 million of total other expense for the nine months ended September 30, 2014. Substantially all of the total other income for the nine months ended September 30, 2015 was due to a $1.3 million receipt of amounts held in an escrow fund related to the Tinet acquisition. Refer to Note 1 “Description of the Business” for more information regarding the escrow receipt.

Provision for Income Taxes. The provision for income taxes of $17.3 million for the nine months ended September 30, 2015 reflected a decrease of $1.0 million, compared to $18.3 million for the nine months ended September 30, 2014. The effective tax rate for the nine months ended September 30, 2015 and 2014 was 37.0% and 39.2%, respectively. The decrease in the Company’s effective income tax rate for the three months ended September 30, 2015, as compared to the three months ended September 30, 2014, was primarily due to various federal and state provision adjustments associated with the filing of the Company’s prior year tax returns.  Excluding these discrete adjustments, the Company’s effective rate for the three months ended September 30, 2015 would have approximated 38.0%.

Liquidity and Capital Resources

At September 30, 2015, we had $112.1 million in cash and cash equivalents and $0.3 million in restricted cash. In comparison, at December 31, 2014, we had $104.7 million in cash and cash equivalents and $0.3 million in restricted cash. Cash and cash equivalents include highly liquid money market mutual funds. The restricted cash balance is pledged as collateral for certain commercial letters of credit.

 

 

Nine Months Ended

 

 

September 30,

 

 

September 30,

 

 

2015

 

 

2014

 

Cash flows provided by operating activities

$

42,081

 

 

$

30,792

 

Cash flows used for investing activities

 

(20,770

)

 

 

(6,458

)

Cash flows used for financing activities

 

(13,971

)

 

 

(1,962

)

 

Cash flows from operating activities

Net cash provided by operating activities was $42.1 million for the nine months ended September 30, 2015, compared to net cash provided by operating activities of $30.8 million for the nine months ended September 30, 2014. Operating cash inflows are largely attributable to payments from customers. Operating cash outflows are largely attributable to personnel-related expenditures and network maintenance costs. The increase in operating cash flow is primarily due to timing of customer payments, as there was a significant increase in accounts receivable in the prior year due to a change in one of our largest customer’s payment terms. Additionally, the increase in operating cash flows was impacted by an increase in accrued liabilities as of September 30, 2015 due to higher accrued network and facilities costs.

21


 

Cash flows from investing activities

Net cash used for investing activities was $20.8 million for the nine months ended September 30, 2015, compared to net cash used for investing activities of $6.5 million for the nine months ended September 30, 2014. The change in cash flows from investing activities was primarily the result of recent purchases of equipment necessary to support the significant additional traffic we are carrying as part of the overall growth of the business.

In 2015, capital expenditures are expected to be approximately $25 million to $27 million, mainly due to investment in and maintenance of our voice network. We plan to fund our capital expenditures with cash generated through our ongoing operations.

Cash flows from financing activities

Net cash used for financing activities was $14.0 million for the nine months ended September 30, 2015, compared to net cash used for financing activities of $2.0 million for the nine months ended September 30, 2014. The change in cash flows used for financing activities are primarily the result of an increase in cash outflows from dividend payments, as well as a decrease in cash inflows from the exercise of stock options. During the nine months ended September 30, 2014 we paid three regular quarterly dividends totaling $9.9 million in aggregate, compared to the nine months ended September 30, 2015 in which we paid three regular quarterly dividends totaling $15.1 million in aggregate. The increase in the cash paid for dividends is due to the increase in our regular quarterly dividend payment per share, effective for the third quarter 2014, as discussed in the “Dividends” section below.  Additionally, we received $7.7 million of cash in the nine months ended September 30, 2014 due to the exercise of stock options, compared to $0.9 million in the nine months ended September 30, 2015.

We regularly review acquisitions and strategic opportunities, which may require additional debt or equity financing. We currently do not have any pending agreements with respect to any acquisitions or strategic opportunities that would require additional debt or equity financing.

Dividends

On February 27, 2014, we announced an increase in our regular quarterly dividend to $0.075 per outstanding share of our common stock. On August 13, 2014, we announced a further increase to our regular quarterly dividend to $0.15 per outstanding share of our common stock, which has continued to be the same quarterly dividend rate paid throughout 2015. Assuming our board of directors does not make any change to the current regular quarterly dividend, the expected future use of cash on an annualized basis using the current full-year dividend rate of $0.60 per outstanding share and an outstanding common stock share balance of approximately 33.7 million is $20.2 million.

Cash and Cash Equivalents

At September 30, 2015, we had $15.2 million of cash in banks and $96.9 million in cash and cash equivalents invested in four money market mutual funds. At December 31, 2014, we had $32.9 million of cash in banks and $71.8 million in cash and cash equivalents invested in three money market mutual funds.

Credit Facility

On March 5, 2013, we entered into a $15.0 million revolving credit facility. The credit facility has a term of three years and an interest rate of LIBOR + 3.25%. We have no plans to draw on the facility at this time and remain debt-free. The facility serves to increase our financial flexibility and further strengthens our liquidity position. We are currently in compliance with all of the covenants of the credit facility agreement.

Effect of Inflation

Inflation generally affects us by increasing our cost of labor and equipment. We do not believe that inflation had any material effect on our results of operations for the nine months ended September 30, 2015 and 2014.

 

 

Item 3. Qualitative and Quantitative Disclosure about Market Risk

Interest rate exposure

We had cash, cash equivalents and restricted cash totaling $112.4 million at September 30, 2015. The unrestricted cash and cash equivalents are held for working capital purposes. We do not enter into investments for speculative purposes.

22


 

Based upon our overall interest rate exposure at September 30, 2015, we do not believe that a hypothetical 10% change in interest rates over a one year period would have a material impact on our earnings, fair values or cash flows from interest rate risk sensitive instruments.

 

 

Item 4. Controls and Procedures

(a) Evaluation of disclosure controls and procedures. Under the supervision and with the participation of our senior management, including our chief executive officer and chief financial officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”), as of the end of the period covered by this quarterly report (the “Evaluation Date”). Based on this evaluation, our chief executive officer and chief financial officer concluded as of the Evaluation Date that our disclosure controls and procedures were effective such that the information relating to Inteliquent, including our consolidated subsidiaries, required to be disclosed in our Securities and Exchange Commission (“SEC”) reports, is (i) recorded, processed, summarized and reported within the time periods specified in SEC rules and forms, and (ii) accumulated and communicated to Inteliquent’s management, including our chief executive officer and chief financial officer, as appropriate to allow timely decisions regarding required disclosure.

(b) Changes in internal control over financial reporting. There have been no changes in our internal control over financial reporting that occurred during the nine months ended September 30, 2015 that have materially affected or are reasonably likely to materially affect our internal control over financial reporting.

 

 

23


 

PART II. OTHER INFORMATION

Item 1. Legal Proceedings

From time to time, we are a party to legal proceedings arising in the normal course of our business. We do not believe that we are a party to any pending legal action that could reasonably be expected to have a material effect on our business or operating results, financial position or cash flows.

Item 1A. Risk Factors

See “Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2014 and the supplemental Risk Factor included in our Quarterly Report on Form 10-Q for the quarter ended March 31, 2015. As of September 30, 2015, there is no material change in this information, except for the following, which should be read in conjunction with the risk factors and information disclosed in such Annual Report and Quarterly Report.

A failure to perform under our agreement with T-Mobile could negatively impact our business.

We recently announced that we had entered into a three-year Telecom Master Services Agreement and a related services attachment with T-Mobile USA, Inc. (“T-Mobile”). We carry a substantial volume of traffic on our network as a result of this agreement.  If we fail to perform under the contractual terms of this agreement or if other events occur and trigger T-Mobile’s right to seek a remedy against us or terminate their agreement with us, our business could be negatively impacted.  For example, T-Mobile may terminate the agreement upon (i) the occurrence of an uncured material breach by us; (ii) a material adverse change to us, including if we become insolvent or we take steps toward a bankruptcy filing; (iii) proposed changes in applicable laws that have or will have a material adverse effect on T-Mobile’s use of the services provided by us; (iv) a transaction resulting in a change in our control either (a) with a direct competitor of T-Mobile or (b) that results in a material degradation of the services provided by us; or (v) a force majeure event that continues beyond a designated period.  Moreover, if we fail to meet designated service levels for designated periods or on multiple occasions, T-Mobile may also have certain termination rights and the right to receive service credits. If T-Mobile terminates their agreement with us or we breach the contractual terms of the agreement, in addition to contract remedies, T-Mobile is generally entitled to all remedies available to it at law or in equity, including, without limitation, monetary damages and equitable relief, under any applicable laws.  If any of the foregoing occurs, it could have a material adverse effect on our business, prospects, financial condition and operating results.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

None

Item 3. Default Upon Senior Securities

None

Item 4. Mine Safety Disclosure

Not applicable.

Item 5. Other Information

None

24


 

Item 6. Exhibits

 

(a)

Exhibits

 

Exhibit 10.1

 

Telecom Master Services Agreement between T-Mobile USA, Inc. (“T-Mobile”) and the Company, effective June 23, 2015.*

 

 

 

Exhibit 10.2

 

Public Switched Telephone Network Services Attachment between T-Mobile and the Company, effective June 23, 2015.*

 

 

 

Exhibit 31.1

  

Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

Exhibit 31.2

  

Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

 

Exhibit 32.1

  

Certification of Chief Executive Officer and Chief Financial Officer pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

 

101.INS

  

XBRL Instance Document.

 

 

101.SCH

  

XBRL Taxonomy Extension Schema Document.

 

 

101.CAL

  

XBRL Taxonomy Extension Calculation Linkbase Document.

 

 

101.DEF

  

XBRL Taxonomy Extension Definition Linkbase Document.

 

 

101.LAB

  

XBRL Taxonomy Extension Label Linkbase Document.

 

 

101.PRE

  

XBRL Taxonomy Extension Presentation Linkbase Document.

*Certain portions of this exhibit have been omitted and filed separately with the Securities and Exchange Commission under a confidential treatment request pursuant to Rule 24b-2 under the Securities Exchange Act of 1934, as amended.

 

 

 

25


 

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

 

 

INTELIQUENT, INC.

 

 

Date: October 29, 2015

 

By:

 

/S/ MATTHEW CARTER, JR.

 

 

 

 

Matthew Carter, Jr.,

Chief Executive Officer

(Principal Executive Officer)

 

 

Date: October 29, 2015

 

By:

 

/S/ KURT J. ABKEMEIER

 

 

 

 

Kurt J. Abkemeier,

Executive Vice President and Chief Financial Officer

(Principal Financial and Accounting Officer)

 

26