-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, OI5OVHyX0/u0OsABNpY0hyv8Skh76cagJzoriNe3VAXf4+g4E+EY3fC7RN5RXUME iArycpkVQjmmvZdf1pfAyg== 0000892569-98-000739.txt : 19980317 0000892569-98-000739.hdr.sgml : 19980317 ACCESSION NUMBER: 0000892569-98-000739 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 12 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980316 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: IXC COMMUNICATIONS INC CENTRAL INDEX KEY: 0001009532 STANDARD INDUSTRIAL CLASSIFICATION: TELEPHONE COMMUNICATIONS (NO RADIO TELEPHONE) [4813] IRS NUMBER: 742644120 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-20803 FILM NUMBER: 98566485 BUSINESS ADDRESS: STREET 1: 1122 CAPITAL OF TEXAS HGWY S CITY: AUSTIN STATE: TX ZIP: 78746 BUSINESS PHONE: 5123281112 MAIL ADDRESS: STREET 1: 5000 PLAZA ON THE LAKE STREET 2: SUITE 200 CITY: AUSTIN STATE: TX ZIP: 79746-1050 10-K 1 FORM 10-K - FOR THE FISCAL YEAR ENDED 12-31-97 1 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K (MARK ONE) [X]ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 OR [ ]TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NUMBER 0-20803 IXC COMMUNICATIONS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 74-2644120 (STATE OR OTHER JURISDICTION OF INCORPORATION (I.R.S. EMPLOYER IDENTIFICATION NO.) OR ORGANIZATION)
1122 CAPITAL OF TEXAS HIGHWAY SOUTH, AUSTIN, TEXAS 78746 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (512) 328-1112 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: COMMON STOCK, PAR VALUE $.01 PER SHARE TITLE OF CLASS Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of the Common Stock of the Registrant held by non-affiliates of the Registrant on February 27, 1998, based on the closing price of the Common Stock on the Nasdaq National Market on such date, was $940,746,077. The number of shares of the Registrant's Common Stock outstanding as of February 27, 1998 was 31,674,484 shares. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Registrant's Proxy Statement to be filed with the Securities and Exchange Commission within 120 days of December 31, 1997 in connection with the Annual Meeting of Stockholders are incorporated by reference into Part III hereof. ================================================================================ 2 IXC COMMUNICATIONS, INC. FORM 10-K FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 INDEX
PAGE ---- PART I Item 1. Business.................................................... 1 Item 2. Properties.................................................. 27 Item 3. Legal Proceedings........................................... 28 Item 4. Submission of Matters to a Vote of Security Holders......... 28 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters....................................... 29 Item 6. Selected Financial Data..................................... 30 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations................................. 31 Item 7A. Quantitative and Qualitative Disclosures About Market Risk...................................................... 40 Item 8. Financial Statements and Supplementary Data................. 40 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.................................. 40 PART III Item 10. Directors and Executive Officers of the Registrant.......... 41 Item 11. Executive Compensation...................................... 41 Item 12. Security Ownership of Certain Beneficial Owners and Management................................................ 41 Item 13. Certain Relationships and Related Transactions.............. 41 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K....................................................... 42 Signatures............................................................ 46 Glossary.............................................................. A-1 Financial Statements.................................................. F-1
i 3 PART I Certain of the information contained in the Registrant's Form 10-K (the "Form 10-K"), including information regarding the Registrant's expectations with respect to its network expansion, related financings and fiber sale and cost-saving agreements, future operations and other information, which can be identified by the use of forward-looking terminology, such as "may," "will," "expect," "anticipate," "estimate," "believe," "seek" or "continue" or the negative thereof or other variations thereon or comparable terminology, are forward-looking statements which involve risk and uncertainty. The Registrant's actual results may differ significantly from the results discussed in the forward-looking statements. For a discussion of important factors that could cause actual results to differ materially from the matters described in the forward-looking statements, see "Business -- Risk Factors." Certain terms used herein are defined in the Glossary at page A-1. As used herein, unless the context otherwise requires, the term "Company" refers to IXC Communications, Inc. ("IXC Communications") and its subsidiaries, including predecessor corporations. ITEM 1. BUSINESS OVERVIEW The Company The Company is a leading provider of voice and data transmission services to communications companies and end users. The Company owns and operates one of the newest and most advanced coast-to-coast digital communications networks (the "Network"), which is expected to include over 11,500 route miles of digital transmission facilities ("digital route miles") by the end of the first quarter of 1998. Substantial additions to the Network are currently under construction, and the Company expects the Network to include over 18,000 digital route miles by the end of 1998, and over 20,000 digital route miles by the end of 1999. The Company's facilities also include seven long distance switches and 15 Frame Relay-ATM switches, which the Company is using to capitalize on the growing demand for Internet and electronic data transfer services. Through a combination of its own facilities and the facilities of other carriers, the Company originates and terminates long distance traffic in all 50 U.S. states, and terminates long distance traffic in over 200 foreign countries. The Company's revenues have grown rapidly, from $91.0 million in 1995 to $203.8 million in 1996 and $420.7 million in 1997. The Company provides two principal products: transmission of voice and data over dedicated circuits ("private lines") and transmission of long distance traffic processed through the Company's switches ("long distance switched services"), including Frame Relay and ATM-based switched data services. The Company's customers include AT&T, MCI, Sprint, WorldCom, Cable & Wireless, Excel, Frontier and over 300 other long distance companies, wireless companies, cable television providers, Internet service providers, governmental agencies, and, with the pending acquisition of Network Long Distance, Inc. ("NLD"), a long distance company, small- and medium-sized businesses. Private Line Business. The Company's private line customers include non-facilities-based carriers requiring dedicated long distance transmission capacity to carry their customers' long distance traffic and facilities-based carriers that require long distance transmission capacity where they have geographic gaps in their facilities, need additional capacity or require geographically diverse routing. The Company has private line circuit contracts with over 230 customers, including AT&T, MCI, Sprint, WorldCom, Cable & Wireless, Frontier and LCI. Pursuant to these contracts, customers are required to make fixed monthly payments, generally in advance. Many of the contracts contain substantial "take or pay" commitments. Long Distance Switched Services Business. The long distance switched services that the Company provides are processed through the Company's digital switches and carried over long distance circuits and other transmission facilities owned or leased by the Company. The Company sells these services on a per-call basis, charging by minutes of use ("MOUs"), with payment due monthly after services are rendered. The Company's primary customers for switched services include long distance resellers (both switchless resellers and switched resellers that lack a switch in a geographic region) that use the Company's network to provide long distance service to end-user customers. The Company has long distance switched services contracts with over 100 long distance resellers. 1 4 The Company provides retail switched long distance services to small- and medium-sized businesses through Telecom One, which it acquired in July 1997. The Company believes that its planned acquisition of NLD, which had 1997 revenues of over $100 million, will provide an important foundation for further growth in the business retail long distance market. The Company seeks to make additional targeted acquisitions of resellers that provide significant network or product synergies. The Company has also entered into a joint venture with Unidial Communications to sell communications services using the Company's network through a full-time, national direct sales force. Data Services. The Company's Network, which includes 15 Frame Relay-ATM switches, has been built with SONET technology and broadband capabilities to provide a platform to support advanced, capacity-intensive products such as Frame Relay, ATM, multimedia, and Internet-related applications. The Company has recently begun marketing a full line of data transport services to its customers. Additionally, the Company recently announced the acquisition of Network Evolutions, Inc. ("NEI"), a company that provides data consulting services and designs internal and external data networking solutions for corporations. In February 1998, the Company entered into a strategic alliance with PSINet Inc. ("PSINet"), a major Internet service provider, whereby the Company will provide transmission capacity for PSINet and will resell PSINet's broad spectrum of Internet services. In addition, the Company acquired 20% of PSINet's common stock. Fiber Sales. The Company has sold excess fiber to MCI and LCI, and expects to continue to use its excess fibers to lower the Company's effective network construction cost by selling or swapping such fibers. In 1997, the Company received cash proceeds of approximately $57.0 million from such sales, but because of its accounting policies, only recorded $0.8 million as revenue from fiber sales during the year. Instead of recognizing fiber sale revenues immediately, the Company records such revenues over the term of the sale/use agreements, usually 20 years or more. In addition to fiber sales, the Company has swapped excess fibers on certain sections of its network with other carriers and in 1997 acquired rights to routes being constructed from Los Angeles to San Francisco, Las Vegas to Portland, and Washington, D.C. to Houston and New York City to Washington, D.C. in such exchanges. International Joint Ventures. The Company is involved in a joint venture with Telenor AS, the Norwegian national telephone company, to provide telecommunication services to carriers and resellers in 11 European countries. The Company also indirectly holds a minority interest in Marca-Tel, a Mexican telecommunications provider. The principal executive offices of IXC Communications are located at 1122 Capital of Texas Highway South, Austin, Texas, 78746 and its telephone number is (512) 328-1112. INDUSTRY Development and Regulation The development of the long distance telecommunications industry was strongly influenced by a 1982 court decree requiring the divestiture by AT&T of its seven RBOCs and dividing the country into approximately 200 LATAs. The seven RBOCs were allowed to provide local telephone service, local access service to long distance carriers and intra-LATA long distance service (service within a LATA), but were prohibited from providing inter-LATA service (service between LATAs). The right to provide inter-LATA service was given to AT&T and the other interexchange carriers, including the LECs that are not RBOCs. The FCC requires all interexchange carriers to allow the resale of their inter-LATA services to long distance carriers, and the 1982 court decree substantially eliminated different access arrangements as distinguishing features among long distance carriers. These and other legislative and judicial factors have helped smaller long distance carriers emerge as alternatives to AT&T, MCI and Sprint for long distance services. In 1996, the federal government enacted the Telecommunications Act of 1996 (the "Telecom Act"), which, among other things, allows the RBOCs and others such as electric utilities and cable television companies to enter the long distance business. The Company expects that the Telecom Act will substantially alter the way in which the telecommunications industry is regulated. Such changes are, however, difficult to predict accurately, because FCC proceedings and appellate review of the numerous administrative regulations 2 5 adopted to implement the Telecom Act, including universal service and access charge reform, are still ongoing. Entry of the RBOCs or other entities such as electric utilities, cable television companies or foreign companies into the long distance business may result in reduced market shares for existing long distance companies and additional pricing pressure on long distance providers such as the Company. See "-- Risk Factors -- Competition," "-- Risk Factors -- Recent Legislation and Regulatory Uncertainty" and "-- Regulation." Market and Competition General. The long distance market is highly competitive. Competition among the Company's customers and other retail long distance providers for end-user customers is based upon pricing, advertising, customer service, network quality and value-added services. Industry observers estimate that over 400 smaller companies have emerged to compete in the long distance business. See "-- Risk Factors -- Competition." Private Line Services. Long distance companies may be categorized as facilities-based carriers and non-facilities-based carriers. Sellers of private line services are generally facilities-based carriers that own long distance transmission facilities, such as fiber optic cable or digital microwave equipment. The first-tier and some second-tier long distance companies are facilities-based carriers offering private line services nationwide. Facilities-based carriers in the third tier of the market generally offer private line services only in a limited geographic area. Customers using private line services include: (i) facilities-based carriers that require long distance transmission capacity where they have geographic gaps in their facilities, need additional capacity or require geographically different alternative routing; and (ii) non-facilities-based carriers requiring long distance transmission capacity to carry their customers' long distance traffic. The Company's competitors in the private line business include AT&T, MCI, Sprint, WorldCom, Qwest and certain regional carriers. MCI and WorldCom have announced a planned merger, and applications for approval of that merger are pending. If the MCI/WorldCom merger is approved, the result would be an even larger, and potentially stronger, entity with whom the Company would have to compete. Qwest is constructing a coast-to-coast fiber optic network and Frontier has agreed to pay $500.0 million for fibers in Qwest's network. Qwest is, and Frontier may become, a competitor of the Company, in the private line business. In addition, Qwest and LCI have also recently announced a planned merger. The Qwest/LCI merger would result in another larger, and potentially stronger, competitor. Furthermore, Level 3, a telecommunications and information service company, has announced that it will spend approximately $3.0 billion to construct a 20,000 mile fiber optic communications network entirely based on Internet technology. The Williams Companies, a competitor of the Company, has also announced that it is accelerating the expansion of its national fiber optic network with a $2.7 billion investment to create a 32,000 mile system by the end of 2001. Important competitive factors in the private line business are price, customer service, network location and quality, reliability and availability. See "-- Private Line Services." Long Distance Switched Services. Long distance companies may be characterized as switched or switchless carriers. Sellers of long distance switched services are generally switched carriers, such as the Company, that own one or more switches that direct telecommunications traffic. Facilities-based carriers are generally switched carriers. However, many non-facilities based carriers (e.g., many long distance resellers) have switches. The Company's customers for switched services are switchless carriers that depend on switched carriers to provide long distance switched services to their end users. The Company's competitors in the long distance switched services business include AT&T, MCI, Sprint, WorldCom and Frontier and many non-facilities-based switched carriers. Important competitive factors in the long distance switched services business are price, customer service (particularly with respect to speed in delivery of computer billing records and set-up of new end users with the LECs), ability of the network to complete calls with a minimum of network-caused busy signals, scope of services offered, reliability and transmission quality. Call Routing An inter-LATA long distance telephone call begins with the caller's LEC transmitting the call by means of its local switched network to a point of connection with an interexchange carrier. The interexchange carrier, through its switches and long distance transmission network, transmits the call to the called party's LEC, 3 6 which then completes the call over its local facilities. For each long distance call, the originating LEC charges an access fee. The interexchange carrier also charges a fee for its transmission of the call, a portion of which consists of a fee charged by the LEC used to deliver the call. Under the Telecom Act, state proceedings may in certain instances determine LEC access charge rates. Further, ongoing access charge proceedings at the federal level may affect the access charges long distance carriers pay to LECs. It is uncertain at this time what effect such proceedings may have on such rates. Technology Long distance voice traffic generally is transmitted through digital microwave or fiber optic systems. Long distance data traffic is generally transmitted through fiber optic systems or satellites. Fiber Optic Systems. Fiber optic systems use laser-generated light to transmit voice and data in digital format through fine strands of glass. Fiber optic systems are characterized by large circuit capacity, good sound quality, resistance to external signal interference and direct interface with digital switching equipment. A pair of modern fiber optic strands, using current technology, is capable of carrying four OC-192s. Because fiber optic signals disperse over distance, they must be regenerated at sites located along the fiber optic cable (on older fiber optic systems the interval is 20 to 25 miles; on newer systems that utilize modern fiber optic cable and splicing methods, such as will be used in the expansion of the Company's digital telecommunications network (the "Network"), it is approximately 50 to 75 miles). Microwave Systems. Although limited in capacity in comparison with fiber optic systems (generally, no more than 28 DS-3s can be transmitted by microwave between two antennae), digital microwave systems offer an effective and reliable means of transmitting voice and data signals over intermediate and longer distances. Microwaves are very high frequency radio waves that can be reflected, focused and beamed in a line-of-sight transmission path. Because of their electro-physical properties, microwaves can be used to transmit signals through the air, with relatively little power. To create a communications circuit, microwave signals are transmitted through a focusing antenna, received by an antenna at the next station in the network, then amplified and retransmitted. Because microwaves attenuate as they travel through the air, this transmission process must be repeated at repeater stations, which consist of radio equipment, antennae and back-up power sources, located on average every 25 miles along the transmission network. BUSINESS STRATEGY The Company's objective is to become the preferred provider of integrated network-based information delivery solutions, utilizing its high-capacity, state-of-the-art national fiber network. The Company's primary near-term goals are to: (i) increase revenues by using the expanded Network to generate new customers and increasing business from existing customers; (ii) improve profitability by migrating traffic from circuits leased from other carriers onto the Network; (iii) enter into additional cost-saving arrangements with other carriers to reduce the cost of the existing Network construction and develop additional Network expansion opportunities; (iv) leverage the relationship with PSINet to generate new Internet services customers and large account customers who require bundled voice, data and Internet transmission services; and (v) complete the acquisition and integration of NLD, including the migration of its traffic onto the Network. In order to achieve these goals the Company intends to pursue the following strategy: Enter Into Cost-Saving Arrangements. The Company has included excess fiber in its Network expansion which it is using to reduce the net cost of construction through: (i) leasing or selling excess fiber to other carriers; and (ii) exchanging excess fiber for fibers or capacity on other carriers' networks. Additionally, the Company seeks to obtain the right to install Company-owned fibers in new routes being constructed by other carriers along the proposed Network expansion routes in exchange for the Company (a) sharing network construction costs; (b) allowing the other carrier to use excess fiber along certain routes in the Network; or (c) allowing the other carrier to add its own fiber to certain segments of the Network. 4 7 The Company has already entered into cost-saving agreements with other carriers that are expected to reduce the per-route-mile cost of construction, including: (i) a contract with WorldCom pursuant to which each company has constructed a fiber route approximately 1,100 miles long and placed fibers for both companies along the route; (ii) contracts with LCI pursuant to which LCI has agreed to purchase an IRU in fibers from Chicago to Los Angeles for approximately $97.9 million (the "Chicago-LA LCI Fiber Sale") and from Cleveland to New York for approximately $20.0 million (the "Cleveland-NY LCI Fiber Sale"); (iii) a contract with MCI pursuant to which MCI has agreed to purchase an IRU in fibers from New York to Los Angeles for approximately $121.0 million (the "MCI Fiber Sale"); (iv) a contract with Vyvx to exchange the use of certain fibers on the Company's New York to Los Angeles route for the use of fibers on an approximately 1,760-mile route under construction by Vyvx from Washington D.C. to Houston; (v) joint construction agreements with LCI, DTI and CCTS allowing the Company to share the costs of constructing certain routes in Illinois, Ohio and Missouri; (vi) a contract with MFS pursuant to which MFS will include fibers for the Company in a route it is constructing from Cleveland to New York; (vii) contracts with GST and WorldCom providing for the sale of fiber along certain routes; (viii) a contract with FTV to exchange the use of certain fibers on the Company's Las Vegas to Los Angeles route for the use of fibers on FTV's Las Vegas to Portland route; (ix) a contract with MFN to exchange the use of certain fibers on the Company's Chicago to New York route for the use of fibers on MFN's Washington D.C. to New York route; and (x) a contract with GST to exchange the use of certain fibers on the Company's Phoenix to Los Angeles route for the use of fibers on GST's route from Los Angeles to Oakland (near San Francisco). Reduce Operating Costs. The Company expects to achieve substantial operating cost savings from the Network expansion by replacing a portion of the capacity it leases from other carriers with its own Network capacity. The Company incurred costs of approximately $92.2 million for leased off-net fiber optic capacity from other carriers in 1997. Although revenue growth may result in increased future off-net usage, the Company believes the Network expansion will result in reduced expenditures for capacity currently leased off-net (as well as reduced expenditures for future capacity otherwise required to support revenue growth) and increased operating cash flow, because the new fiber routes (i) are targeted for geographic areas that the Network currently does not reach or is capacity limited or where the Company leases off-net capacity and (ii) will allow the Company to enter into additional exchanges of fiber capacity on new routes with other carriers. Increase Private Line Revenues. Geographic limitations and nearly full utilization of the then-existing Network previously limited the Company's ability to expand its private line business. The Network expansion has added high-capacity new routes and substantially increased the capacity of certain existing routes, allowing the Company to lease additional circuits to its customers, including high-capacity, high-margin circuits such as OC-3s, OC-12s and OC-48s. The Company has already generated significant orders for capacity on the new routes. The Company continues to seek significant new orders over the Network expansion routes and believes that it is well positioned to obtain such orders. Additionally, the Company specifically designed the Network expansion along routes geographically diverse from those of other facilities-based carriers. In recent years, companies such as AT&T and MCI have used the Company to provide alternative routes to help protect their networks in the event of a service outage. Such companies prefer routes separated geographically from their own networks to increase the possibility that the alternative route will be functional in the event of a natural disaster. The Company believes that the 5 8 Network expansion greatly increases the attractiveness of the Company's Network as an alternative routing network backup to the major carriers. Expand the Long Distance Switched Services Business. The Company has established itself as an alternative provider of long distance switched services with nation-wide origination and domestic and international termination capability with switched services revenues in 1997 of $258.3 million. The Company currently has over 100 customers and believes that it is well positioned to attract other long distance resellers for its long distance switched services. The Company believes that the low embedded cost of its Network provides a significant advantage when competing to provide long distance switched traffic to resellers, cable companies, RBOCs, utility companies and others which are permitted to enter the long distance business under recent changes in telecommunications law. By the end of 1998, the Company intends to add four additional long distance voice/data switches which, if installed, will provide additional capacity to originate and terminate traffic. Although the Company has not yet achieved positive EBITDA in its long distance switched services business, the Company is seeking to improve the results in this business by continuing to seek a more efficient customer traffic mix and by increasing the scale and scope of traffic carried over its Network. Specifically, the Company's focus is on (i) obtaining traffic that meets its profitability requirements and aligns with the Company's current and planned Network, (ii) identifying new products and customers with large capacity requirements, (iii) identifying Internet, intranet and data traffic opportunities and (iv) identifying joint venture and acquisition candidates that will increase the flow and mix of traffic in the Company's Network and increase its reach. Expand Data and Internet Business. The Company is using advanced fiber optic technology in its Network expansion. The expanded Network's SONET technology and broadband capabilities provide a platform to support advanced, capacity-intensive products such as Frame Relay, ATM, multimedia, and Internet-related applications. The Company has equipped its network with 15 data switches (8 more are expected by the end of 1998) and other equipment necessary to enter into the Frame Relay and ATM transmission business. The Company has agreed to acquire a small company with data communications expertise to increase its data engineering capabilities. The acquisition, in which the Company will issue approximately 42,000 shares of Common Stock, is scheduled to close in the first half of 1998. To enhance the Company's product and service offerings, in February 1998, the Company consummated agreements with PSINet which allow each party to market and sell the products and services of the other party. Under the terms of the agreements, the Company will provide PSINet with a 20-year IRU in 10,000 miles of OC-48 transmission capacity on its Network in exchange for approximately 10.2 million shares representing 20% (post-issuance) of PSINet's common stock. Establish Long-Term Customer Relationships. The Company seeks to establish a dependable revenue stream through long-term relationships with its customers. The Company has private line contracts (generally on a long-term basis) with over 230 long distance carriers, including AT&T, MCI, Sprint, WorldCom, Cable & Wireless, Frontier and LCI. The Company has historically enjoyed a high customer retention rate in its private line business. Although the Company's switches first became fully operational in the first quarter of 1996, the Company has already entered into contracts with over 100 long distance resellers. Provide a Sophisticated Automated Software Interface. The Company seeks to increase its attractiveness to existing and potential customers of switched long distance services by providing a sophisticated automated interface to the Company's computer system through its proprietary IXC Online software. Utilizing IXC Online, customers are able to access up-to-date information regarding their end-user customers and the calls made by such end-users. IXC Online is designed to allow each of the Company's carrier customers to: (i) download call detail records for its end-users for billing purposes; (ii) arrange with the appropriate LEC to register the carrier as the designated long distance carrier for its new end-users; and (iii) file trouble reports for resolution. 6 9 THE COMPANY'S NETWORK Facilities As of December 31, 1997, the Network included over 10,500 digital route miles (including over 5,500 fiber route miles). The Network is expected to include over 11,500 digital route miles (including over 6,500 fiber route miles) by the end of the first quarter of 1998. Prior to beginning construction of the Network expansion in late 1995, the Company owned a digital coast-to-coast network containing over 1,900 route miles of fiber optic cable and over 5,000 route miles of digital microwave. As of December 31, 1997, the Company had over 3,600 route miles of advanced fiber optic cable and electronics in operation. The Company is expected to have over 5,000 route miles of advanced fiber optic cable and electronics in operation by the end of the first quarter of 1998. The Company's owned facilities are supplemented with approximately 240,000 equivalent DS-3 miles of fiber capacity obtained from other carriers. Of such capacity, over 200,000 DS-3 miles are leased by the Company. Approximately 39,000 DS-3 miles of such capacity are obtained by the Company through long- term capacity-exchange agreements with MCI and WorldCom whereby the Company trades capacity or fibers on its fiber network for capacity on the other carriers' networks. In addition, the Company has agreements with CCTS and LCI to exchange OC-48 capacity on certain routes. The Company has been able to negotiate these significant exchange agreements because of the placement of the Company's existing Network in locations where other facilities-based carriers require additional capacity and the comparatively large expense to such other carriers of constructing new fiber optic facilities. Such exchange agreements increase the scope of the Network through the addition of the exchanged capacity while reducing the Company's cash expenditures for off-net facilities. The Network includes seven digital long distance voice/data switches located in Los Angeles, Dallas, Chicago, Philadelphia, Atlanta, Joplin, Missouri and New York, New York each directly connected over either on-net or off-net private line circuits: (i) to at least two other switching centers; (ii) to certain of the Company's over 50 Hubs (local connection points); and (iii) to certain LEC Central Office switches. The Company plans to install four additional voice/data switches in 1998. The Hubs are connected (generally by off-net circuits) to LEC Central Office switches, which in turn are connected to end-user telephone lines. The switches utilize common channel signaling (SS7), which reduces connect time delays. The Network also includes 15 Frame Relay-ATM data switches located in major cities. The Company's switched operations are supplemented by agreements with Frontier and WorldCom. Under such agreements, Frontier and WorldCom supply switched capacity to the Company on a per-minute basis, automatically handling calls routed through LEC Central Offices not connected to the Company's Hubs or switches and calls which exceed the capacity of the Company's switched network. The capacity of the Company's switches may be expanded with processor upgrades, additional memory and ports. The Company plans to add more ports and other equipment for its existing switches and to add additional switches as required to accommodate customer demand, including 8 additional Frame Relay-ATM switches by the end of 1998. The new fiber optic routes are being constructed with fiber capable of supporting bi-directional SONET rings for enhanced network reliability. As each new route is completed and placed into service, it will be equipped with an OC-48 in order to provide initial transmission capacity. The Company is currently in the process of equipping certain of its routes with additional OC-48s in order to meet customer demand for its services. Network Reliability The Network offers a reliable means of transmitting large volumes of voice and data signals. To assist in providing reliable and high-quality transmission service, all important functions of the network are monitored during regular business hours from regional operations centers in Columbus, Kansas City, Fort Worth and Tucson. Thereafter, monitoring is conducted from the Company's national operations center in its Austin headquarters. The national center also provides overall system monitoring on a 24-hour basis. This system 7 10 alerts the Company to situations which could affect customer transmission and generally allows the Company to take remedial actions before customer service is affected. In addition, at December 31, 1997, the Company employed approximately 83 operations personnel who are based along the Network to perform preventative maintenance as well as repair functions on its private line network. Company operations personnel conduct annual system performance testing and make periodic unannounced visits to terminal sites to evaluate technician performance. At December 31, 1997, the Company maintained a staff of 31 technicians to provide maintenance and other technical support services for switched long distance services. Network Expansion In 1995 the Company began a significant expansion of the Network. The expanded Network is expected to deliver the following significant strategic and financial benefits to the Company: (i) substantial savings by allowing the Company to move on to its own Network a significant portion of its traffic that it currently carries on circuits which it leases from other carriers; (ii) high-capacity new routes and substantially increased capacity on certain existing routes, allowing the Company to increase revenues by leasing additional circuits to its customers, including high-capacity circuits such as OC-3s, OC-12s and OC-48s; (iii) lower underlying transmission and network operating costs; (iv) sufficient capacity to support increasing demand expected from Internet and multimedia applications, Frame Relay and ATM; and (v) reduced capital costs through sales and exchanges of excess fiber which the Company is including in its Network expansion specifically for that purpose. The Network expansion is planned to add thousands of additional fiber route miles to increase the geographic scope and capacity of the Company's previously existing network. It will connect the Company's switches with high-capacity private line circuits, utilizing advanced fiber optic technology capable of efficiently transmitting capacity-intensive services, such as Internet, Intranet and multimedia applications, Frame Relay and ATM. The routes of the Network expansion are planned to be generally geographically diverse from the existing fiber networks of AT&T, MCI, Sprint and WorldCom. The Company expects that the Network expansion will produce additional cost savings by supporting growth in its private line and long distance switched services businesses which would otherwise require significant off-net capacity usage. The Network expansion will enable the Company to avoid increased expenditures for leasing off-net capacity because the new fiber routes: (i) should carry much of the traffic that would otherwise be transmitted over off-net circuits and (ii) may enable the Company to enter into additional exchanges of fiber capacity with other carriers. In this way, the Company seeks to improve cash flow through increasing revenues and reducing certain costs. The Network expansion has already enabled the Company to obtain significant orders for capacity on the new routes. The Company continues to seek significant new orders over the Network expansion routes and believes that it is well positioned to obtain such orders. Frame Relay, ATM and Internet Services. During the first quarter of 1997, the Company began providing Frame Relay and ATM-based switched data services in order to capitalize on the growing demand for Internet and electronic data transfer services. To enhance the Company's product and service offerings, in February 1998, the Company consummated agreements with PSINet which allow each party to market and sell the products and services of the other party. Under the terms of the agreements, the Company will provide PSINet with a 20-year IRU in 10,000 miles of OC-48 transmission capacity on its Network in exchange for approximately 10.2 million shares representing 20% (post-issuance) of PSINet common stock. If the value of the PSINet common stock received by the Company is less than $240.0 million at the earlier of one year after the final delivery of the transmission capacity (scheduled for late-1999) or four years after the transaction's closing, PSINet, at its option, will pay the Company cash and/or deliver additional PSINet common stock to bring the value of the Company's investment to $240.0 million. Upon delivery of the transmission capacity to 8 11 PSINet, the Company will begin to receive a maintenance fee which, as the full capacity has been delivered, should increase to approximately $11.5 million per year. Construction. The Company has planned the Network expansion to cover, to the greatest extent practicable, routes where one or more of the following factors are present: (i) customer demand indicates a need for high-capacity fiber network on the route; (ii) the route is attractive as a complement to the routes of other carriers, which may enable the Company to lease its new capacity on the route to other carriers or exchange a portion of its new capacity on the route for capacity from other carriers; or (iii) the capacity will replace capacity leased by the Company from other carriers. Plans to complete the Network expansion along the following routes (the routes and expected delivery dates are subject to change) are as follows: (i) One route will consist of a fiber optic route to supplement the Company's existing New York-Los Angeles route, which consists primarily of digital microwave facilities which are now used to capacity. This coast-to-coast route is to extend from New York to Los Angeles over new fiber optic cable through upstate New York, Cleveland, Chicago, St. Louis, Dallas, Phoenix and Las Vegas. This route, much of which is already complete, is scheduled for completion during the first quarter of 1998. (ii) An additional route is now under construction from Washington, D.C. to Atlanta and then to Houston. The Washington-Atlanta portion of the route will be constructed by Vyvx and is scheduled for completion in mid-1998. Additions to the route, from New York to Washington, D.C. and Houston to Dallas, are scheduled to be completed by the end of 1998. (iii) Routes are also planned for construction from Los Angeles to San Francisco, and to link Toledo, Detroit and Chicago. Additional routes will be added to the Network expansion as opportunities for advantageous cost sharing or exchange arrangements arise or as customer demand requires. The Company plans generally to light initially only two to four of the new fibers in the route from New York to Los Angeles via St. Louis and the route from New York to Houston via Atlanta. Certain of the remaining fibers will be reserved and used as a platform to support emerging capacity-intensive data and multimedia applications. The Company intends to light additional fibers as needed in the future and may use the other additional fibers for sale or exchange arrangements, such as the PSINet transaction. See "-- Business Strategy" and "-- Risk Factors -- Risks Relating to the Network Expansion." The Company has already entered into cost-saving agreements with other carriers that have reduced the per-route-mile cost of construction, including: (i) a contract with WorldCom pursuant to which each company has constructed a fiber route approximately 1,100 miles long and placed fibers for both companies along the route; (ii) the Chicago-LA LCI Fiber Sale and Cleveland-NY LCI Fiber Sale; (iii) the MCI Fiber Sale; (iv) a contract with Vyvx to exchange the use of certain fibers on the Company's New York to Los Angeles route for the use of fibers on a 1,600-mile route under construction by Vyvx from Washington D.C. to Houston; (v) joint construction agreements with LCI, DTI and CCTS allowing the Company to share the costs of constructing certain routes in Illinois, Ohio and Missouri; (vi) a contract with MFS pursuant to which MFS will include fibers for the Company in a route it is constructing from Cleveland to New York (MFS has been acquired by WorldCom); (vii) contracts with GST and WorldCom providing for the sale of fiber along certain routes; (viii) a contract with FTV to exchange the use of certain fibers on the Company's Las Vegas to Los Angeles route for the use of fibers on FTV's Las Vegas to Portland route; 9 12 (ix) a contract with MFN to exchange the use of certain fibers on the Company's Chicago to New York route for the use of fibers on MFN's Washington D.C. to New York route; and (x) a contract with GST to exchange the use of certain fibers on the Company's Phoenix to Los Angeles route for the use of fibers on GST's route from Los Angeles to Oakland (near San Francisco). Cost. The principal components of the cost of the Network expansion will include: (i) fiber optic cable; (ii) engineering and construction; (iii) electronics; and (iv) rights-of-way. The rights-of-way will be provided pursuant to long-term leases or other arrangements (some of which may provide for substantial continuing payments) entered into with railroads, highway commissions, pipeline owners, utilities or others. Although the Company has not yet obtained all the necessary rights-of-way along the planned routes, the Company anticipates that the rights-of-way will be available. Through the WorldCom fiber construction agreement, the Vyvx fiber exchange and the other cost-saving arrangements described above, the Company has reduced its expected cost of the Network expansion. The Company seeks to enter into additional cost-saving arrangements such as: (i) leasing or selling excess fiber to other carriers; and (ii) exchanging excess fiber for fibers or capacity on other carriers' networks. Additionally, the Company seeks to obtain the right to install Company-owned fibers in new routes being constructed by other carriers along the proposed Network expansion routes in exchange for the Company (a) sharing network construction costs; (b) allowing the other carrier to use excess fiber along certain routes in the Network; or (c) allowing the other carrier to add its own fiber to certain segments of the Network. See "-- Risk Factors -- Negative Cash Flow and Capital Requirements." The Company has had experience with arrangements of this type with several major carriers, including MCI, Sprint, Cable & Wireless, WorldCom and LCI. PRIVATE LINE SERVICES Overview Substantially all of the Company's 1995 revenues, approximately 49% of its revenues in 1996 and approximately 39% of its revenues in 1997 were generated by its private line business. The Company has over 230 active private line customers. Strategy The Company is seeking to increase revenues in its private line business through meeting these primary objectives: (i) expanding its Network to provide additional capacity on its existing routes and high-capacity new routes to provide access to major population centers (including routes which may be attractive to major carriers as backup routes); (ii) providing high-quality, reliable private line services on a fixed-cost basis at rates generally below those currently offered by AT&T and competitive with those offered by other carriers; and (iii) using the expanded Network as a platform to support increased private line circuit demand which is expected to result in the future from Frame Relay, ATM, multimedia, Internet and other capacity-intensive applications. The Company anticipates decreased expenses in its private line business through the Network expansion, which will allow the Company to move traffic from circuits leased from other carriers to its own Network. Customers and Marketing The Company has over 230 active private line customers, including AT&T, MCI, Sprint, WorldCom, Cable & Wireless, Frontier and LCI. The Company's private line contracts provide for fixed monthly payments, generally in advance. Many of such contracts contain substantial "take or pay" commitments. The Company has historically enjoyed a high customer retention rate in its private line business. The Company markets its private line circuit capacity generally to: (i) facilities-based carriers that require private line capacity where they have geographic gaps in their facilities, need additional capacity or require geographically different, alternative routing; and (ii) non-facilities-based carriers requiring private line capacity to carry their customers' long distance traffic. The Company focuses most of its direct sales efforts on 10 13 providing customer support services to existing customers and on adding new customers. The Company's long-haul circuit sales force at December 31, 1997 consisted of 13 account managers based at the Company's headquarters in Austin and at direct sales offices in or near Washington, D.C., New Haven, San Francisco, Kansas City, Chicago, St. Louis, Houston and Sunrise Beach, Missouri. During 1997, AT&T, Frontier and WorldCom, the Company's three largest private line customers, accounted for approximately 6.4%, 4.2% and 4.1%, respectively, of the Company's revenues. The five largest private line customers during 1997 accounted for approximately 20% of the Company's total revenue. See "-- Risk Factors -- Reliance on Major Customers." Prices and Contracts The Company's strategy is to offer prices generally lower than those of AT&T and competitive with the prices of other carriers, to permit the Company's customers, through a stable, long-term fixed pricing structure, to maintain control over transmission costs. The Company's private line transmission agreements with its customers generally provide for original terms of one to three years and for monthly payment in advance on a fixed-rate basis, calculated according to the capacity and length of the circuit. Many of such contracts contain substantial "take or pay" commitments. Furthermore, circuit orders under private line agreements are generally for a term of one year or more and may not be cancelled by the customer. However, the agreements generally provide that the customer may terminate the affected service without penalty "for cause" in the event of substantial and prolonged outages arising from causes within the Company's control, and for certain other defined causes. Generally, the lease agreements further provide that the customer may terminate the agreement "for convenience" at its discretion at any time upon notice to the Company. However, termination for convenience generally requires either full payment of all charges through the end of the lease term or the payment of substantial termination fees intended to allow the Company to recover certain costs and, in some cases, lost profits. Damages attributable to a customer's termination of the agreement are generally reduced, however, by an offset for any income the Company earns from re-leasing the terminated capacity during the remaining portion of the lease term. Competition In providing private line capacity, the Company competes with AT&T, which is the largest supplier of long distance voice and data transmission services in the United States, MCI, WorldCom and Sprint, all of which have substantially greater financial resources than the Company and a far more extensive transmission network than the Network and numerous regional carriers. MCI and WorldCom have announced a planned merger, and applications for approval of that merger are pending. If the MCI/WorldCom merger is approved, the result would be an even larger, and potentially stronger, entity with which the Company would have to compete. In addition, as a result of the Telecom Act and an agreement (the "WTO Agreement") announced in February 1997 by the United States Trade Representative with the World Trade Organization countries to open world telecommunications markets to competition which became effective on February 5, 1998, the Company and its customers will also face competition from the RBOCs, GTE and others such as electric utilities, cable television companies and foreign companies. Qwest is constructing a coast-to-coast fiber optic network and Frontier has agreed to pay $500 million for fibers in Qwest's network. Qwest is, and Frontier may become, a competitor of the Company. In addition, Qwest and LCI have also recently announced a planned merger. The Qwest/LCI merger would result in another larger, and potentially stronger, competitor. Furthermore, Level 3 has announced that it will spend approximately $3.0 billion to construct a 20,000 mile fiber optic communications network entirely based on Internet technology. The Williams Companies, a competitor of the Company, has also announced that it is accelerating the expansion of its national fiber optic network with a $2.7 billion investment to create a 32,000 mile system by the end of 2001. Important competitive factors in the long-haul business are price, customer service, network location and quality, reliability and availability. See "-- Private Line Services" and "-- Risk Factors -- Competition." 11 14 LONG DISTANCE SWITCHED SERVICES Overview In late 1995, the Company expanded into the business of selling long distance switched services to long distance resellers in order to complement its private line business and to capitalize on its ability to provide long distance switched services over its own Network. Long distance switched services are telecommunications services that are processed through the Company's digital switches and carried over long-haul circuits and other transmission facilities owned or leased by the Company. During 1995, the Company set up the infrastructure for its long distance switched services business by installing its switches, connecting them to its Network and to the LECs, acquiring software, hiring personnel and entering into contracts with customers. The Company's switched network became fully operational in February 1996. The Company sells long distance switched services on a per-call basis, charging by MOUs, with payment due monthly after services are rendered. Strategy The Company seeks to rapidly increase revenues from its long distance switched services business through: (i) long-term arrangements with significant customers and customers the Company considers likely to grow quickly; (ii) providing a sophisticated automated software interface with its customers; (iii) offering pricing which is generally lower than that charged by AT&T and competitive with that of other long distance service providers; and (iv) acquisitions. The Company seeks to increase the profitability of its long distance switched services business by decreasing its average cost per MOU through efficiencies achieved with higher volumes and through reducing network costs through the Network expansion. See "-- Business Strategy." Customers and Marketing The Company focuses its sales efforts on directly contacting large reseller customers with monthly volumes of at least $1.0 million, and growing resellers with volumes between $50,000 and $250,000 per month that the Company expects to be reasonably likely to grow to the $1.0 million per month level. The Company's switched-products sales force at December 31, 1997 included 18 sales executives based at the Company's headquarters in Austin and at direct sales offices in Atlanta, Dallas, Denver and Los Angeles. Although sales of long distance switched services to end-user customers do not currently account for a significant portion of the Company's switched long distance business, Telecom One, a company which the Company acquired in July 1997, and NLD, a company which the Company expects to acquire in 1998, each sell directly to end users. In addition, the Company may, from time to time, consider acquiring other long distance resellers or end-user customer bases. Excel. Excel, the Company's largest customer of switched long distance services, is contractually obligated to utilize at least 70 million minutes of traffic per month. Excel's commitment continues through the earlier of the date on which Excel has routed 4.2 billion minutes over the Network or June 30, 2001. The minimum commitment is subject to reduction or termination: (i) if Excel installs its own switches and invites the Company to bid along with other carriers (to win such bids, the Company would have to be the lowest bidder) to provide Excel with the long-haul circuits utilized by such switches (even if this did occur, Excel would still have to meet the minimum commitment of 70 million minutes per month until June 30, 1998); or (ii) for breach of contract by the Company or for other reasons which the Company believes should be under its control. Although Excel's minimum commitment is 70 million minutes per month, its usage increased substantially above the minimum commitment by December 1996. At December 31, 1997, Excel had routed approximately 2.0 billion minutes over the Network. The Company is Excel's main or sole supplier of 1 Plus Switched Service in over 50 LATAs. Customer Contracts. The Company's rates for switched long distance services generally vary with the duration of the call, the day and the time of day the call was made and whether the traffic is intrastate, interstate or international. The rates charged are not affected by which facilities are selected by the Company's switching centers for transmission of the call or by the distance of the call. Different rates are applied to combined origination and termination services than are applied to termination services. The agreements 12 15 between the Company and its customers for long distance switched services generally provide for payment in arrears based on MOUs. The agreements generally also provide that the customer may terminate the affected service without penalty in the event of substantial and prolonged outages arising from causes within the Company's control, and for certain other defined causes. Generally, the agreements provide that the customer, in order to avoid being obligated to pay higher rates (or, in some cases, penalties), must utilize at least a minimum dollar amount (measured by dollars or MOUs) of long distance switched services per month for the term of the agreement. In certain new contracts, the Company is including provisions to provide for financial penalties for a customer's failure to provide the expected traffic distributions. Customer Care. The Company believes that customer support is an important factor in attracting and retaining customers for its long distance switched services. Customer service for long distance switched services includes processing new accounts, responding to inquiries and disputes relating to billing, credit adjustments and cancellations and conducting technical repair and other support services. IXC Online is designed to allow each of the Company's carrier customers to: (i) download current call detail records for its end-users for billing purposes; (ii) arrange with the appropriate LEC to register the carrier as the designated long distance carrier for its new end users; and (iii) file trouble reports for resolution. The Company employed approximately 65 people in its long distance switched services customer service group as of December 31, 1997. See "-- Risk Factors -- Development Risks and Dependence on Long Distance Switched Services Business." Decreased Costs through Increased Volumes or Greater Efficiency Large MOU volumes should enable the Company to spread its fixed costs over more MOUs and to more efficiently configure its network, reducing the cost per MOU. The Company seeks to efficiently configure the circuits available so that calls are completed on a cost-effective basis. The Company periodically analyzes calling patterns using mathematical formulas to determine the circuit capacity required to cost-effectively service the expected call volume. For example, if there is sufficient calling traffic available, the Company may upgrade transmission circuitry in an area from DS-1 to DS-3. A similar analysis will be made when deciding whether to install a new switch in a region. The Company is continuing to develop procedures to better analyze its expected traffic patterns in order to enhance Network efficiency and identifying customers generating an unprofitable mix of traffic. The Company's strategy of enhancing profitability through efficiency may have the effect of reducing MOU volume and gross revenue in the long distance switched services business. Services The Company markets a variety of switched long distance services, including operator services, directory assistance, international service and the following: 1 Plus Switched Service. Provides direct-dial service over the Company's Network. 1 Plus Dedicated Service. Provides direct-dial service over the Company's Network for end users that have arranged to connect to the Company's nearest Hub through a local loop. This service is less expensive than 1 Plus Switched Service because the access charges of the end-user's LEC are reduced. 800/888 Switched Service. Provides 800/888 service over the Company's Network. 800/888 Dedicated Service. Provides 800/888 service over the Company's Network for end users that have arranged to connect to the Company's nearest Hub through a local loop. This service is less expensive than 800/888 Switched Service because the access charges of the end-user's LEC are reduced. Calling Card Service. Provides telephone card service. Debit Card Service. Provides prepaid telephone card service. Switched Termination Service. Provides carrier customers having use of a switch in one area with termination services in other areas. 13 16 Acquisitions As part of its growth strategy, the Company acquired Telecom One in July 1997 using shares of its Common Stock as consideration and entered into an agreement in December 1997 to acquire NLD using shares of its Common Stock as consideration. In addition, the Company has agreed to acquire with Common Stock a small company with data communications expertise to increase its data engineering capabilities. The Company may, from time to time, acquire other businesses, assets or securities of companies which it believes provide a strategic fit with its business and network. Although the Company currently has no other commitments or agreements with respect to any material acquisitions, it has reviewed potential acquisition candidates and has held preliminary discussions with a number of these candidates. The Company may use Common Stock as consideration for other acquisitions. The Company has agreed to acquire NLD, a long-distance reseller with over $100.0 million in revenue in 1997, for approximately 4.3 million shares of Common Stock (including approximately 300,000 shares issuable with respect to NLD options and warrants). NLD has a national direct sales force selling primarily to small and medium-sized businesses. The Company believes it can improve the profitability of NLD because it can lower its costs of call transmission. This acquisition is a part of a Company strategy to expand by acquiring select resellers on advantageous terms as opportunities arise. The Company believes that its acquisition of NLD will provide an important foundation for growth in the business retail long distance market, however, there can be no assurances that the acquisition, if consummated, will have such effect. See "-- Risk Factors -- Integration of Acquired Businesses; Business Combinations." Competition The Company competes with numerous facilities-based interexchange carriers, some of which are substantially larger, have substantially greater financial, technical and marketing resources and utilize larger transmission systems than the Company. AT&T is the largest supplier of long distance switched services in the United States inter-LATA market. The Company also competes in selling long distance switched services with: (i) other facilities-based carriers, such as MCI, Sprint, WorldCom, Quest, The Williams Companies and certain regional carriers, and (ii) certain non-facilities-based carriers. MCI and WorldCom have announced a planned merger, and applications for approval of that merger are pending. If the MCI/WorldCom merger is approved, the result would be an even larger, and potentially stronger, entity with whom the Company would have to compete. Frontier has agreed to pay $500.0 million for fibers in Qwest's network. Qwest is, and Frontier may become, a competitor of the Company. In addition, Qwest and LCI have also recently announced a planned merger. The Qwest/LCI merger would result in another larger, and potentially stronger, competitor. Furthermore, Level 3 has announced that it will spend approximately $3.0 billion to construct a 20,000 mile fiber optic communications network entirely based on Internet technology. The Williams Companies has also announced that it is accelerating the expansion of its national fiber optic network with a $2.7 billion investment to create a 32,000 mile system by the end of 2001. As a result of the Telecom Act and recent WTO Agreement, the Company will also now face competition from the RBOCs, GTE and others such as electric utilities, cable television companies and foreign companies. The Company believes that the principal competitive factors affecting it are price, customer service (particularly with respect to speed in delivery of computer billing records and set-up of new end users with the LECs), ability of the network to complete calls with a minimum of network-caused busy signals, scope of services offered, reliability and transmission quality. The ability of the Company to compete effectively will depend upon its ability to maintain high-quality services at prices generally equal to or below those charged by its competitors. In the United States, price competition in the long distance business has been intensive over the last five years. In 1995, the FCC reclassified AT&T as a "non-dominant" carrier, freeing AT&T from price regulation of its long distance services. Since the Company believes that its customers generally price their service offerings at or below the prices charged by AT&T for its telecommunications services, reductions by AT&T in its rates may necessitate similar price decreases by the Company. See "-- Risk Factors -- Competition." 14 17 REGULATION Certain subsidiaries of the Company operate as communications common carriers. These subsidiaries are subject to applicable FCC regulations under the Communications Act of 1934, as amended (the "Communications Act"), some of which may be affected by the Telecom Act of 1996 and regulations being promulgated thereunder. See "-- Risk Factors -- Recent Legislation and Regulatory Uncertainty." In addition, those subsidiaries which operate the Company's microwave Network are subject to applicable FCC regulations for use of the radio frequencies. The FCC issues licenses to use certain radio frequency spectrum at transmitter site locations. Each license gives the Company the right to operate the microwave radio station for the term of the license. Currently, the Company holds licenses to operate the microwave sites in the Network. The licenses all expire in 2001. These licenses are renewable upon application containing a statement that they are used in compliance with the applicable FCC rules. The Company expects that the FCC will renew its licenses in due course. The Communications Act currently limits ownership of an entity holding such licenses by non-U.S. citizens, foreign corporations and foreign governments. The Company is subject to regulation by the Federal Aviation Administration with respect to the construction of transmission towers and to certain local zoning regulation affecting construction of towers and other facilities. Recent court decisions (which were issued before the Telecom Act of 1996) require the FCC to require carriers to file tariffs. However, the FCC currently does not actively exercise its authority to regulate such carriers' rates and services. Moreover, the Telecom Act of 1996 gives the FCC authority to forbear from applying certain provisions of the Communications Act, including the requirement that carriers file tariffs. The FCC has recently issued an order implementing a mandatory detariffing policy that eliminates the tariff requirements for non-dominant interstate, interexchange carriers. An appeal of the FCC's order resulted in the order being stayed. The appeal is being held in abeyance, pending the FCC's action on motions for reconsideration. Regardless of the outcome of the detariffing proceeding, the FCC will retain jurisdiction to act upon complaints against any common carrier for failure to comply with its statutory obligations as a common carrier. The FCCs reclassification of AT&T as a non-dominant carrier may affect the Company, because it competes with AT&T. The FCC's current and future actions could result in decreases in the rates charged to end-user customers by AT&T and other competitors for their services. Thus, one effect of the FCC's action may be to further intensify price competition among long distance companies. The FCC regulates many of the rates, charges and services provided by the LECs. Such regulation can also affect the costs of business for the Company, its customers and its competitors, because carriers such as the Company must purchase local access services from LECs to originate and terminate calls. The FCC's current price cap regulation of the RBOCs and other LECs provides them with considerable flexibility in pricing their services. The FCC recently issued two orders regarding access charge reform and transport rate structure and pricing. Both orders have been appealed and in the interim, on January 1, 1998, LEC tariffs implementing the requirements of the FCC orders went into effect. The outcomes of the appeals, and the outcomes of any subsequent FCC rulemaking proceedings, are impossible to predict, but future changes with respect to access charges are likely. Although some increases in certain elements of access charges are anticipated in mid-1998, the overall effect of access charge reform on the Company is currently uncertain. Further, on July 18, 1997, in Iowa Utilities Board v. FCC, the United States Court of Appeals for the Eighth Circuit invalidated key portions of the FCC's August 29, 1996 interconnection order, which the FCC had adopted to facilitate the emergence of local exchange competition. The Supreme Court recently agreed to hear an appeal of the Eighth Circuit's ruling. The further emergence and development of local exchange competition may likely be delayed as a result. Consequently, the Company and its customers may not benefit as quickly from the lower access costs that might otherwise have resulted had competition in the provision of local access services not been thus delayed. The Telecom Act directed the FCC to establish a system for compensating payphone service providers ("PSPs") on a per-call basis for calls made from payphones, including coinless calls, such as calling card, collect, and "800" calls. On October 9, 1997, the FCC released an order that set a $0.284 per-call "default" rate that long distance carriers are required to pay to PSPs for certain coinless calls. Although the FCC's order 15 18 has gone into effect, it is being appealed, and the amount of compensation long distance carriers will ultimately be required to pay to PSPs is currently uncertain. In addition, the Telecom Act allows the RBOCs and others to enter the long distance business. Entry of the RBOCs or other entities such as electric utilities and cable television companies into the long distance business may have a negative impact on the Company or its customers. The Telecom Act also establishes criteria for RBOC re-entry into in-region long distance markets, and RBOCs are required to obtain FCC approval before they can begin providing such services. To date, the FCC has rejected four such RBOC applications, at least one of which is being appealed. However, on December 31, 1997, the U.S. District Court for the Northern District of Texas ruled that the provisions of the Telecom Act that apply specifically to RBOCs are unconstitutional. On February 11, 1998, the District Court stayed its order, and the order has been appealed. While the outcome of the appeal is impossible to predict, if the district court's order is upheld, the re-entry of the RBOCs into the in-region long distance market would likely be hastened. Further, the FCC has indicated that it is attempting to establish a "collaborative process" with the RBOCs to facilitate the review and ultimately the approval of such applications. The Telecom Act also provides that state proceedings may in certain instances determine access charge rates the Company and its customers are required to pay to the LECs. It is uncertain at this time what effect such proceedings may have on such rates. There can be no assurance that such rates will not be increased. Such increases could have a material adverse effect on the Company and its customers. See "-- Risk Factors -- Recent Legislation and Regulatory Uncertainty" and "Industry Overview." The ability of the Company to provide long distance services within any state is generally subject to regulation by a regulatory board in that State. As of December 31, 1997, the Company is operating and has obtained the requisite licenses and approvals in the 48 contiguous continental United States. MEXICAN JOINT VENTURE The Company is indirectly participating in the development of a long distance network to engage in the telecommunications business in Mexico through Marca-Tel S.A. de C.V. ("Marca Tel"). As of December 31, 1997, the Company indirectly owned 24.5% of Marca-Tel through its ownership of 50% of Progress International LLC ("Progress International"), which owned 49% of Marca-Tel. The remaining 51% of Marca-Tel is owned by a Mexican individual and Fomento Radio Beep, S.A. de C.V. The other 50% of Progress International is owned by Westel International, Inc. ("Westel"). As of December 31, 1997, the Company and Westel have jointly contributed or loaned Progress International a total of $48.7 million, of which $37.0 million has been provided by the Company. Substantially all of such funds have been used by Progress International to fund Marca-Tel. The Company is recognizing its share of the Progress International losses in accordance with its pro rata share of funds provided to Progress International. The net carrying value for the Company's interest in Progress International was $11.6 million at December 31, 1997. In September, 1995, Marca-Tel entered into an agreement with a third party to construct a portion of Marca-Tel's telecommunications network in Mexico and to provide significant financing for such construction and related equipment and fiber purchases. Such third party has been granted security interests in all of Marca-Tel's assets, including the telecommunications network, and the owners of Marca-Tel, including Progress International, have pledged their interests in Marca-Tel to collateralize payment to the third party. As of December 31, 1997, approximately $49.1 million was owed by Marca-Tel to such third party. In February, 1998, Marca-Tel announced that it was putting further investment in new fiber routes on hold, awaiting more suitable regulatory and market conditions. Because of the continuing adverse regulatory environment in Mexico, Marca-Tel has determined to limit further investment and to reduce its scope of operations. At the present time, the Company does not anticipate significant additional funding to Progress International for investment in Marca-Tel until the regulatory and market conditions in Mexico improve. The Company is not obligated to continue to fund Progress International and the Senior Notes Indenture and the terms of the Exchangeable Preferred Stock contain significant limitations on the amount the Company may 16 19 invest in Progress International and other non-majority owned entities. However, failure to provide further significant funding to Progress International is likely to result in a default under Marca-Tel's financial arrangements and could result in the foreclosure of the third party's security interest. The Company's interest in Progress International, and thus its indirect interest in Marca-Tel, therefore could be diluted or lost entirely. The forward-looking statements set forth above with respect to the capital needs of Progress International and of Marca-Tel and the successful completion and operation of Marca-Tel's fiber optic system in Mexico are based on certain assumptions as to future events. Important assumptions, which if not met, could adversely affect Marca-Tel's ability to achieve satisfactory results include that: (i) there will be no significant delays or cost overruns with respect to the network expansion; (ii) the Company's contractors and partners in cost- saving arrangements will perform their obligations; (iii) rights-of-way can be obtained in a timely, cost-effective basis; (iv) the routes of the network expansion are substantially completed on schedule; (v) Marca-Tel can successfully operate its long distance switched services business on a cost effective basis (including the provision of billing information in an accurate and timely manner) for volumes that it has not previously handled; (vi) Marca-Tel can obtain sufficient funds from debt or equity offerings, joint venture arrangements, accounts, additional vendor financing, or otherwise and (vii) regulatory and market conditions improve. EMPLOYEES As of December 31, 1997, the Company employed 712 people, of whom 349 provided operational and technical services, 67 provided engineering services and the balance were engaged in administration and marketing. The Company's employees are not represented by any labor union. The Company considers its employee relations to be good and has not experienced any work stoppages. RISK FACTORS Statements contained in this Annual Report on Form 10-K regarding the Company's expectations with respect to its network expansion, related financings and fiber sale and cost-saving agreements, future operations and other information, which can be identified by the use of forward-looking terminology, such as "may," "will," "expect," "anticipate," "estimate," "believe," "seek" or "continue" or the negative thereof or other variations thereon or comparable terminology, are forward-looking statements. The discussions set forth below constitute cautionary statements identifying important factors with respect to such forward-looking statements, including risks and uncertainties, that could cause actual results to differ materially from results referred to in the forward-looking statements. There can be no assurance that the Company's expectations regarding any of these matters will be fulfilled. Negative Cash Flow and Capital Requirements The Company's capital expenditures were $314.3 million and interest expense and capitalized interest were $38.6 million for 1997. The Company's EBITDA was $15.5 million, its cash flow provided by operating activities was $14.3 million and its net loss was $94.6 million for 1997. The Company expects to make substantial capital expenditures in excess of $500.0 million (subject to the availability of capital) during 1998 and substantial amounts thereafter. Accordingly, the Company needs and will continue to need a substantial amount of cash from outside sources. The Company anticipates meeting the cash requirements relating to such capital expenditures from cash on hand, cash flow from fiber sales and its operations, other vendor financing, if available, and additional equity and/or debt financings. The Company intends to incur a substantial amount of additional indebtedness and may issue a substantial amount of additional equity securities over the near term. The amount of actual capital expenditures may vary materially as a result of cost-saving arrangements, increases or decreases in the amount of traffic on the Network, unexpected costs, delays or advances in the timing of certain capital expenditures and other factors. The Company's ability to meet the cash costs of such capital expenditures is dependent in part upon the Company's ability to complete the construction of the Network expansion in a timely manner and otherwise perform its obligations to the satisfaction of each of LCI and MCI so that it can complete the Chicago-LA LCI Fiber Sale and the MCI Fiber Sale, to enter into cost-saving arrangements with carriers or other large users of fiber capacity, to 17 20 otherwise raise significant capital and/or to significantly increase its cash flow. The failure of the Company to accomplish any of the foregoing may significantly delay or prevent such capital expenditures, which would have a material adverse effect on the Company and the value of the Common Stock and its other securities. The Company's long distance switched services business will require cash to meet operating expenses. In order to offer long distance switched services, the Company installed switches, connected them to its Network and to the LECs (as defined), acquired software and hired the personnel needed to establish a national switched network. The Company's long distance switched services business generated negative EBITDA for 1996 and 1997 and the Company believes it may be negative during 1998, due to, among other things, access costs and uneven traffic patterns creating high network overflow costs. Although the Company has not yet achieved positive EBITDA in its long distance switched services business, the Company is seeking to improve the results in this business by increasing the scale and scope of traffic carried over its Network. Specifically, the Company's focus is on (i) obtaining traffic that meets its profitability requirements and aligns with the Company's current and planned Network, (ii) identifying new products and customers with large capacity requirements, (iii) identifying Internet, intranet and data traffic opportunities and (iv) identifying joint venture and acquisition candidates that will increase the flow and mix of traffic in the Company's Network and increase its global reach. For a discussion of important factors that could cause the Company's long distance switched services business to fail to generate positive EBITDA, see "-- Risk Factors -- Development Risks and Dependence on Long Distance Switched Services Business." The Company is required to make annual interest payments of $35.6 million with respect to the Company's outstanding $285.0 million principal amount of the Senior Notes. The Company will also be required to make interest payments and, beginning June 30, 1998, principal payments in connection with borrowings under a secured equipment financing facility of up to $28.0 million (approximately $18.0 million of which had been borrowed at March 1, 1998) entered into with NTFC Capital Corporation and Export Development Corporation, in July 1997 (the "NTFC Equipment Facility"). Delays in the Network expansion, larger than anticipated capital expenditures for the Network or continued negative cash flow from the long distance switched services business could impair the ability of the Company to meet its obligations under the Senior Notes and other indebtedness, to pay cash dividends on the Convertible Preferred Stock and the Exchangeable Preferred Stock and to access additional sources of funding, any of which would have a material adverse effect on the Company and the value of the Common Stock and its other securities. See "-- Risk Factors -- Risks Relating to the Network Expansion," and "-- Risk Factors -- Development Risks and Dependence on Long Distance Switched Services Business." The Company anticipates that in the event it is unable to obtain vendor financing on acceptable terms, consummate the MCI Fiber Sale and the Chicago-LA LCI Fiber Sale, or sell additional equity and/or debt securities in order to complete its planned Network expansion, it may be required to curtail or delay its planned Network expansion. Furthermore, before incurring additional indebtedness, the Company may be required to obtain the consent of, or repay, its debtholders. The Company's failure to obtain additional financing or, in the alternative, its decision to curtail or delay its planned network expansion could have a material adverse effect on its business, results of operations and financial condition. In October 1997, the Company formed a joint venture with Telenor AS, the Norwegian national telephone company, to provide telecommunication services to carriers and resellers in nine European countries. The joint venture is owned 40 percent by the Company, 40 percent by Telenor Global Services AS ("Telenor"), and 20 percent by Clarion Resources Communications Corporation, a U.S.-based telecommunications company in which Telenor owns a controlling interest. Although the Company cannot accurately predict the capital that will be required to implement such joint venture (the "European Joint Venture"), the Company estimates that its 1997 funding of approximately $5.8 million will be sufficient for 1998. However, there can be no assurance that the European Joint Venture will not require more capital from the Company during 1998 and thereafter. In December 1997, the Company formed Unidial Communications Services, LLC, a joint venture with Unidial Incorporated ("Unidial"). The joint venture is building a direct sales force to market and sell Unidial's and the Company's products over the Company's Network. The joint venture is owned 80 percent by 18 21 Unidial and 20 percent by the Company. Subject to the terms of the joint venture agreement, upon request of the President of the joint venture, the Company is obligated to contribute up to an additional $7.5 million during 1998 and after November 1, 1998, it may be obligated to contribute up to an additional $4.0 million. After its funding obligation is fulfilled, the Company is not required to fund any future contributions to the joint venture, but to the extent Unidial funds such contributions, the Company's interest in the joint venture may be diluted. The cash requirements described above do not include any cash which may be required for acquisitions the Company may make. See "-- Risk Factors -- Integration of Acquired Businesses; Business Combination." Substantial Indebtedness The Company is highly leveraged. As of December 31, 1997, the Company had outstanding approximately $320.3 million of long-term debt and capital lease obligations (including the current portion thereof) principally consisting of its outstanding $285.0 million principal amount of the Senior Notes. Furthermore, the Company may borrow an aggregate of up to $28.0 million (approximately $18.0 million of which had been borrowed at March 1, 1998), under the NTFC Equipment Facility. In addition, the Company is in discussions with various investment bankers, vendors and lending institutions regarding several substantial additional debt financings. If such additional debt financings occur, they will substantially increase the Company's interest expense. Furthermore, the Company will become more highly leveraged if it exchanges the Exchangeable Preferred Stock for Exchange Debentures pursuant to the terms of the Certificate of Designation in connection with the Exchangeable Preferred Stock. The Company's significant debt burden could have several important consequences to the holders of the Common Stock, including, but not limited to: (i) all or a significant portion of the Company's cash flow from operations must be used to service its debt instead of being used in the Company's business (in 1997, the Company's cash flow from operations was $14.3 million and interest expense was $31.3 million); (ii) the Company's significant degree of leverage could increase its vulnerability to changes in general economic conditions or increases in prevailing interest rates; (iii) the Company's flexibility to obtain additional financing in the future, as needed to continue the Network expansion or for any other reason, may be impaired by the amount of debt outstanding and the restrictions imposed by the covenants contained in the Senior Notes Indenture and in agreements relating to other indebtedness; and (iv) the Company may be more leveraged than certain of its competitors, which may be a competitive disadvantage. There can be no assurance that the Company's cash flow from operations will be sufficient to meet its obligations under the Senior Notes or other indebtedness or the Convertible Preferred Stock or the Exchangeable Preferred Stock as payments become due or that the Company will be able to refinance the Senior Notes or other indebtedness at maturity or the Convertible Preferred Stock or the Exchangeable Preferred Stock upon mandatory redemption. The Company anticipates that earnings will be insufficient to cover fixed charges and cash dividends on preferred stock for the next several years. In order for the Company to meet its debt and dividend service obligations, and its dividend and redemption obligations with respect to its preferred stock, the Company will need to substantially improve its operating results. There can be no assurance that the Company's operating results will be sufficient to enable the Company to meet its debt service obligations, and its dividend and redemption obligations with respect to its preferred stock. In the absence of a substantial improvement in operating results, the Company would face substantial liquidity problems and would be required to raise additional financing through the issuance of debt or equity securities; however, there can be no assurance that the Company would be successful in raising such financing. Recent and Expected Losses The Company reported a net loss of $37.4 million for the year ended December 31, 1996 and a net loss of $94.6 million for the year ended December 31, 1997, primarily due to substantial depreciation related to capital expenditures, interest expense associated with the Senior Notes and operational expenses associated with the long distance switched services business. During 1998 and thereafter, the Company's ability to 19 22 generate operating income, EBITDA and net income will depend to a great extent on demand for the private line circuits constructed in the Network expansion and the success of the Company's switched long distance and data services. There can be no assurance that the Company will return to profitability in the future. Failure to generate operating income, EBITDA and net income will impair the Company's ability to: (i) meet its obligations under the Senior Notes or other indebtedness; (ii) pay cash dividends on the Convertible Preferred Stock and the Exchangeable Preferred Stock; (iii) expand its long distance switched services business; and (iv) raise additional equity or debt financing which will be necessary to continue the Network expansion or which may be required for other reasons. Such events could have a material adverse effect on the Company and the value of the Common Stock and its other securities. Risks Relating to the Network Expansion; Maintenance of Network, Rights-of-Way and Permits The continuing Network expansion is an essential element of the Company's future success. The Company has, from time to time, experienced delays with respect to the construction of certain portions of the Network expansion and may experience similar delays in the future. These delays have postponed the Company's ability to transfer long distance traffic from leased facilities to owned facilities. Although the Company has made significant progress, construction of the New York to Los Angeles via St. Louis route is not yet complete. The Company has substantial existing commitments to purchase materials and labor for construction of the Network expansion, and will need to obtain additional materials and labor which may cost more than anticipated. Substantial portions of the route from New York to Los Angeles via St. Louis and all of the route from Washington to Houston via Atlanta are being constructed by contractors or, pursuant to cost-saving arrangements, by third parties that will include the Company's fiber in routes such carriers are constructing for their own use. Difficulties or delays with respect to any of the foregoing may significantly delay or prevent the completion of the Network expansion, which would have a material adverse effect on the Company, its financial results and the value of the Common Stock and its other securities. The expansion of the Company's Network and its construction or acquisition of new networks will be dependent, among other things, on its ability to acquire rights-of-way and required permits from railroads, utilities and governmental authorities on satisfactory terms and conditions and on its ability to finance such expansion, acquisition and construction. Once expansion of the Network is completed and requisite rights and permits are obtained, there can be no assurance that the Company will be able to maintain all of its existing rights and permits. Loss of substantial rights and permits or the failure to enter into and maintain required arrangements for the Company's Network could have a material adverse effect on the Company's business, financial condition and results of operations and on the value of the Common Stock and its other securities. Dependence Upon Network Infrastructure; Risk of System Failure; Security Risks The Company's success in marketing its services to business and government users requires that the Company provide superior reliability, capacity and security via its Network. The Company's Network and networks upon which it depends are subject to physical damage, power loss, capacity limitations, software defects, breaches of security (by computer virus, break-ins or otherwise) and other disruptions which may cause interruptions in service or reduced capacity for customers, which could have a material adverse effect on the Company's business, financial condition and results of operations and on the value of the Common Stock and its other securities. Pricing Pressures and Risks of Industry Over-Capacity The long distance transmission industry has generally been characterized by over-capacity and declining prices since shortly after the AT&T divestiture in 1984. The Company believes that, in the last several years, increasing demand has ameliorated the over-capacity and that pricing pressure has been reduced. However, the Company anticipates that prices for its services will continue to decline over the next several years. The Company is aware that certain long distance carriers (WorldCom, MCI, LCI, Qwest and others) are expanding their capacity and believes that other long distance carriers, as well as potential new entrants to the industry, are considering the construction of new fiber optic and other long distance transmission networks. If the MCI/WorldCom merger or the Qwest/LCI merger is approved, the result would be even larger, and 20 23 potentially stronger, competitor (or competitors) with expanded capacity. Although the Company believes that there are significant barriers to entry for some new entrants that may consider building a new fiber optic network, such as substantial construction costs and the difficulty and expense of securing appropriate rights-of-way, establishing and maintaining a sufficient customer base, recruiting and retaining appropriate personnel and maintaining a reliable network, certain of these barriers may not apply to some new entrants (such as Qwest, utility companies or railroads which already have significant rights-of-way). In addition, Level 3 has announced that it will spend approximately $3.0 billion to construct a 20,000 mile fiber optic communications network entirely based on Internet technology. The Williams Companies has also announced that it is accelerating the expansion of its national fiber optic network with a $2.7 billion investment to create a 32,000 mile system by the end of 2001. Since the cost of the actual fiber is a relatively small portion of the cost of building new transmission lines, companies building such lines are likely to install fiber that provides substantially more transmission capacity than will be needed over the short or medium term. Further, recent technological advances have shown the potential to greatly expand the capacity of existing and new fiber optic cable. Although such technological advances may enable the Company to increase its capacity, an increase in the capacity of the Company's competitors could adversely affect the Company's business. If industry capacity expansion results in capacity that exceeds overall demand in general or along any of the Company's routes, severe additional pricing pressure could develop. As a result, certain industry observers have predicted that, within a few years, there may be dramatic and substantial price reductions and that long distance calls will not be materially more expensive than local calls. In addition, several companies (including AT&T and ICG Communications, Inc.) have announced plans to offer long distance voice telephony over the Internet, at substantially reduced prices. Price reductions could have a material adverse effect on the Company and the value of the Common Stock. See "Management's Discussion and Analysis of Financial Condition and Results of Operations -- Overview." Development Risks and Dependence on Long Distance Switched Services Business The success of the Company in the long distance switched services business is dependent on the Company's ability to generate significant customer traffic, to manage an efficient switched long distance network and related customer service and the timely completion of the Network expansion. Prior to 1996 the Company had not previously managed a switched long distance network and there can be no assurance that its long distance switched services business can generate positive EBITDA or net income. The failure of the Company to generate increased customer traffic, to complete new routes in a timely manner, or to effectively manage the switched network and related customer service or to generate positive EBITDA or net income from the long distance switched services business would have a material adverse effect on the Company. The Company's long distance switched services business will require cash to meet its operating expenses. The Company's long distance switched services business generated negative EBITDA for each of the four quarters of 1996 and 1997 and the Company believes it may be negative during 1998, due to access costs and uneven traffic patterns creating high network overflow costs. Although the Company is attempting to control such costs and improve EBITDA from long distance switched services, there is no assurance it will be successful. The Company expects that the Network expansion will result in an improvement in the gross margins and EBITDA generated by its long distance switched services business. The Company has experienced and expects to continue to experience difficulties in commencing services for end users of carrier customers. Although the Company believes that its performance with respect to these matters has met or exceeded industry norms, such difficulties may adversely affect the Company's relationships with its customers. Important factors that could cause the Company's long distance switched services business to fail to generate positive EBITDA include changes in the businesses of the Company's reseller customers, an inability to attract new customers or to quickly transfer new customers to its Network without problems, the loss of existing customers, problems in the operation of the switched network, the Company's lack of experience with long distance switched services, increases in operating expenses or other factors affecting the Company's revenue or expenses, including delays in the construction of the Network expansion and increased expenses related to access charges and network overflow, not all of which can be controlled by the Company. If traffic does not increase and costs are not adequately controlled there can be no assurance that the long distance switched services business will ever generate positive EBITDA. In addition, to the extent that LECs grant 21 24 volume discounts with respect to local access charges, the Company may have a cost disadvantage versus the larger carriers. Furthermore, the credit risk for the Company's long distance switched services business is substantially greater than the credit risk for the Company's private line business, because switched long distance customers are charged in arrears on the basis of MOUs (which are frequently subject to dispute), and because many switched long distance customers (in particular, resellers of debit card services) are not as well capitalized as most of the Company's private line customers. The Company's provision for bad debt was $3.0 million in 1996 (when it had $104.0 million of long distance switched services revenue) and $17.4 million in 1997 (when it had $258.3 million of long distance switched services revenue). See "-- Switched Long Distance Services." Risks Inherent in Rapid Growth Part of the Company's strategy is to achieve rapid growth through expanding its long distance switched services business and through expanding the Network. In addition, the Company may from time to time make acquisitions of resellers, such as NLD and Telecom One, which it believes provide a strategic fit with its business and Network. See "Risk Factors -- Integration of Acquired Businesses; Business Combinations." The Company's rapid growth has placed, and its planned future growth will continue to place, a significant and increasing strain on the Company's financial, management, technical, information and accounting resources. See "-- Risk Factors -- Dependence on Billing, Customer Services and Information Systems." Continued rapid growth would require: (i) the retention and training of new personnel; (ii) the satisfactory performance by the Company's customer interface and billing systems; (iii) the development and introduction of new products; and (iv) the control of the Company's expenses related to the expansion into the long distance switched services business and the Network expansion. The failure by the Company to satisfy these requirements, or otherwise to manage its growth effectively, would have a material adverse effect on the Company and the value of the Common Stock and its other securities. Dependence on Billing, Customer Services and Information Systems Sophisticated information and processing systems are vital to the Company's growth and its ability to monitor costs, bill customers, provision customer orders and achieve operating efficiencies. Billing and information systems for the Company's historical lines of business have been produced largely in-house with partial reliance on third-party vendors. These systems have generally met the Company's needs due in part to the low volume of customer billing. As the Company's long distance operation continues to expand, the need for sophisticated billing and information systems will increase significantly. For example, during the first half of 1997, the Company had negative gross margins in its long distance switched services business, due in part to certain customers which were using the Company's services for termination in LATAs where the Company's prices were too low relative to access costs in such LATAs. The Company's plans for the development and implementation of its billing systems rely, for the most part, on the delivery of products and services by third party vendors. Failure of these vendors to deliver proposed products and services in a timely and effective manner and at acceptable costs, failure of the Company to adequately identify all of its information and processing needs, failure of the Company's related processing or information systems or the failure of the Company to upgrade systems as necessary could have a material adverse effect on the ability of the Company to reach its objectives, on its financial condition and on its results of operations and on the value of the Common Stock and its other securities. Year 2000 Risks Certain of the Company's older computer programs identify years with two digits instead of four. This is likely to cause problems because the programs may recognize the year 2000 as the year 1900. These problems (the "Year 2000 Problems") could result in a system failure or miscalculations disrupting operations, including a temporary inability to process transactions, send invoices or engage in similar normal business activities. The Company has completed an assessment identifying which programs will have to be modified or replaced in order to function properly with respect to dates in the year 2000 and thereafter. The Company believes that the cost of modifying those systems that were not already scheduled for replacement for business 22 25 reasons prior to 2000 is immaterial. Updating the current software to be Year 2000-compliant is scheduled to be completed by mid-1999, prior to any anticipated impact on operating systems. Although the Company does not expect Year 2000 Problems to have a material adverse effect on its internal operations, it is possible that Year 2000 Problems could have a material adverse effect on (i) the Company's suppliers and their ability to service the Company, to accurately invoice for services rendered and to accurately process payments received; and (ii) the Company's customers and their ability to continue to utilize the Company's services, to collect from their customers and to pay the Company for services received. The cumulative effect of such problems, if they occur, could have a material adverse effect on the Company and the value of the Common Stock and its other securities. Integration of Acquired Businesses; Business Combinations As part of its growth strategy, the Company may, from time to time, acquire businesses, assets or securities of companies which it believes provide a strategic fit with its business and the Network. Although the Company currently has no commitments or agreements with respect to any material acquisitions (other than with respect to NLD), it has reviewed potential acquisition candidates and has held preliminary discussions with a number of these candidates. The acquisition of NLD and any other companies will be accompanied by the risks commonly associated with acquisitions. These risks include potential exposure to unknown liabilities of acquired companies, the difficulty and expense of integrating the operations and personnel of the companies, the potential disruption to the business of the Company, the potential diversion of management time and attention, the impairment of relationships with and the possible loss of key employees and customers of the acquired business, the incurrence of amortization expenses if an acquisition is accounted for as a purchase and dilution to the stockholders of the Company if the acquisition is made for stock. Any acquired businesses will need to be integrated with the Company's existing operations. This will entail, among other things, integration of switching, transmission, technical, sales, marketing, billing, accounting, quality control, management, personnel, payroll, regulatory compliance and other systems and operating hardware and software, some or all of which may be incompatible with the Company's existing systems. The Company has limited expertise dealing with these problems. There can be no assurance that services, technologies or businesses of acquired companies will be effectively assimilated into the business or product offerings of the Company or that they will contribute to the Company's revenues or earnings to any material extent. In particular, transferring substantial amounts of additional traffic to the Network (as will be required in connection with the acquisition of NLD) can cause service interruptions and integration problems. The risks associated with acquisitions could have a material adverse effect on the Company and the value of the Common Stock and its other securities. Reliance on Major Customers The Company's ten largest customers in 1997 accounted for approximately 61% of its revenues, with Excel, AT&T, WorldCom and Frontier, its four largest customers, accounting for approximately 28.6%, 6.4%, 4.2% and 4.1% of the Company's revenue in 1997, respectively. Excel, WorldCom and Frontier, the Company's three largest customers in 1996, accounted for 35%, 8% and 10% of the Company's revenues in 1996, respectively. Most of the Company's arrangements with large customers do not provide the Company with guarantees that customer usage will be maintained at current levels. In addition, construction by certain of the Company's customers of their own facilities, construction of additional facilities by competitors or further consolidations in the telecommunications industry involving the Company's customers would lead such customers to reduce or cease their use of the Company's services which could have a material adverse effect on the Company and the value of the Common Stock and its other securities. The Company's strategy for establishing and growing its long distance switched services business is based in large part on its relationship with Excel. The failure by the Company to fulfill its obligations to provide a reliable switched network for use by Excel or the failure by Excel: (i) to fulfill its obligations to utilize the Company's switched long distance services (even though such failure could give rise in certain circumstances 23 26 to claims by the Company); (ii) to utilize the volume of MOUs that the Company expects it to utilize or (iii) to maintain and expand its business, could result in a material adverse effect on the Company. Dependence Upon Sole and Limited Sources of Supply The Company relies on other companies to supply certain key components of its network infrastructure, including telecommunications services, network capacity and switching and networking equipment, which, in the quantities and quality demanded by the Company, are available only from sole or limited sources. The Company is also dependent upon LECs to provide telecommunications services and facilities to the Company and its customers. The Company has from time to time experienced delays in receiving telecommunications services and facilities, and there can be no assurance that the Company will be able to obtain such services or facilities on the scale and within the time frames required by the Company at an affordable cost, or at all. Any such difficulty in obtaining such services or additional capacity on a timely basis at an affordable cost, or at all, would have a material adverse effect on the Company's business, financial condition and results of operations. The Company also is dependent on its suppliers' ability to provide products and components that comply with various Internet and telecommunications standards, interoperate with products and components from other vendors and fulfill their intended function as a part of the network infrastructure. Any failure of the Company's suppliers to provide such products could have a material adverse effect on the Company's business, financial condition and results of operations. Competition The telecommunications industry is highly competitive. Many of the Company's competitors and potential competitors have substantially greater financial, personnel, technical, marketing and other resources than those of the Company and a far more extensive transmission network than the Company. Such competitors may build additional fiber capacity in the geographic areas to be served by the Network or to be served by the Network expansion. Qwest is building a new nationwide long distance fiber optic network and Frontier has agreed to pay $500.0 million to obtain fibers in Qwest's network. If the MCI/WorldCom merger or the Qwest/LCI merger is approved, the result would be even larger, and potentially stronger, competitor (or competitors). In addition, Level 3 has announced that it will spend approximately $3.0 billion to construct a 20,000 mile fiber optic communications network entirely based on Internet technology. The Williams Companies, a competitor of the Company, has also announced that it is accelerating the expansion of its national fiber optic network with a $2.7 billion investment to create a 32,000 mile system by the end of 2001. Furthermore, many telecommunications companies are acquiring switches and the Company's reseller customers will have an increasing number of alternative providers of switched long distance services. The Company competes primarily on the basis of pricing, availability, transmission quality, customer service (including the capability of making rapid additions to add end users and access to end-user traffic records) and variety of services. The ability of the Company to compete effectively will depend on its ability to maintain high-quality services at prices generally equal to or below those charged by its competitors. An alternative method of transmitting telecommunications traffic is through satellite transmission. Satellite transmission is superior to fiber optic transmission for distribution communications, for example, video broadcasting. Although satellite transmission is not preferred to fiber optic transmission for voice traffic in most parts of the United States because it exhibits a slight (approximately one-quarter-second) time delay, such delay is not important for many data-oriented uses. In the event the market for data transmission grows, the Company will compete with satellite carriers in such market. Also, at least one satellite company, Orion Network Systems, Inc., has announced its intention to provide Internet access services to businesses through satellite technology. The Company competes with large and small facilities-based interexchange carriers as well as with other coast-to-coast and regional fiber optic network providers. There are currently four principal facilities-based long distance fiber optic networks (AT&T, MCI, Sprint and WorldCom) and Qwest is building another. The Company anticipates that each of Qwest and Frontier will have a fiber network similar in geographic scope and potential operating capability to that of the Company. The Company also sells long distance switched services to both facilities-based carriers and nonfacilities-based carriers (switchless resellers), competing with 24 27 facilities-based carriers such as AT&T, MCI, Sprint, WorldCom and certain regional carriers. The Company competes in its markets on the basis of price, transmission quality, network reliability and customer service and support. The ability of the Company to compete effectively in its markets will depend upon its ability to maintain high quality services at prices equal to or below those charged by its competitors many of whom have extensive experience in the long distance market. In addition, the Telecom Act of 1996 (as defined) will allow the RBOCs and others to enter the long distance market. When RBOCs enter the long distance market, they may acquire, or take substantial business from, the Company's reseller customers. There can be no assurance that the Company will be able to compete successfully with existing competitors or new entrants in its markets. Failure by the Company to do so would have a material adverse effect on the Company's business, financial condition and results of operations. See "-- Risks Related to Technological Change" and "-- Regulation." On February 15, 1997, the United States Trade Representative designate announced that an agreement had been reached with World Trade Organization ("WTO") countries to open world telecommunications markets to competition. The agreement, known as the WTO Basic Telecommunications Services Agreement, became effective on February 5, 1998. The WTO Agreement will provide U.S. companies with foreign market access for local, long distance, and international services, either on a facilities basis or through resale of existing network capacity. The WTO Agreement also provides that U.S. companies can acquire, establish or hold a significant stake in telecommunications companies around the world. Conversely, foreign companies will be permitted to enter domestic U.S. telecommunications markets and acquire ownership interest in U.S. companies. On June 4, 1997, the FCC initiated a rulemaking proceeding to bring FCC policies and procedures into conformance with the WTO Agreement, and on November 26, 1997 released an order on foreign entry, although a petition for reconsideration of the order is pending. While the outcome of the petition for reconsideration cannot be predicted, foreign telecommunications companies could also be significant new competitors to the Company or the Company's customers. See "-- Industry Overview," "-- Business -- Private Line Services" and "-- Business -- Long Distance Switched Services." Dependence on Key Personnel The Company's businesses are managed by a small number of key executive officers, the loss of whom could have a material adverse effect on the Company. The Company believes that its growth and future success will depend in large part on its continued ability to attract and retain highly skilled and qualified personnel. As a result of the recent growth in the telecommunications industry, competition for qualified operations and management personnel has intensified. The loss of one or more members of senior management or the failure to recruit additional qualified personnel in the future could significantly impede attainment of the Company's financial, expansion, marketing and other objectives. Development Risks of the Frame Relay and ATM Transmission Business The Company began offering Frame Relay, ATM and other data transmission services during the first quarter of 1997. Although the Company has not yet generated material revenues from this business, the Company believes that data transmission services present a promising opportunity for the Company. To succeed in providing these services, the Company must compete with AT&T, MCI, Sprint, WorldCom and other large competitors. In addition, the Company expects that it will be necessary to continue to make upgrades to its Network (in advance of related revenues) to be competitive in providing these services. The provision of data transmission services involves technical issues with which the Company has very limited experience. In addition, the provision of these services must be successfully integrated with the Company's existing businesses. To the extent the Company does not successfully compete in providing these services, it will not realize a return on its investment in data switches and other equipment and it will not benefit from the growth, if any, in demand for these services. A failure to successfully compete in data transmission services could have a material adverse effect on the Company and the value of the Common Stock and its other securities. 25 28 Recent Legislation and Regulatory Uncertainty Certain of the Company's operations are subject to regulation by the FCC under the Communications Act. In addition, certain of the Company's businesses are subject to regulation by state public utility or public service commissions. Changes in the regulation of, or the enactment or changes in interpretation of legislation affecting, the Company's operations could have a material adverse affect on the Company and the Common Stock. In 1996 the federal government enacted the Telecom Act, which, among other things, allows the RBOCs and others to enter the long distance business. Entry of the RBOCs or other entities such as electric utilities and cable television companies into the long distance business may have a negative impact on the Company or its customers. The Company anticipates that certain of such entrants will be strong competitors because, among other reasons, they may enjoy one or more of the following advantages: they may (i) be well capitalized; (ii) already have substantial end-user customer bases; and/or (iii) enjoy cost advantages relating to local loops and access charges. The introduction of additional strong competitors into the switched long distance business would mean that the Company and its customers would face substantially increased competition. This could have a material adverse effect on the Company and the value of the Common Stock. On July 18, 1997, in Iowa Utilities Board v. FCC, the United States Court of Appeals for the Eighth Circuit invalidated key portions of the FCC's August 29, 1996 interconnection order, which the FCC had adopted to facilitate the emergence of local exchange competition. The Supreme Court recently agreed to hear an appeal of the Eighth Circuit's ruling. The further emergence and development of local exchange competition may likely be delayed as a result. Consequently, the Company and its customers may not benefit as quickly from the lower access costs that might otherwise have resulted had competition in the provision of local access services not been thus delayed. Further, the FCC has issued orders relating to universal service funding by interstate telecommunications carriers, and to the access charges the Company and its customers are required to pay to LECs. These orders have been appealed. The outcomes of the appeals, and the outcomes of future FCC proceedings on these issues, are impossible to predict. In addition, the Telecom Act provides that state proceedings may in certain instances determine access charges the Company and its customers are required to pay to the LECs. There can be no assurance that such proceedings will not result in increases in such rates. Such increases could have a material adverse effect on the Company or its customers. See "-- Industry Overview;" and "-- Regulation." Some members of Congress have expressed dissatisfaction with the FCC's implementation of the Telecom Act, and in particular with respect to the development of local exchange competition, RBOC re-entry into in-region long distance markets and universal service funding. It is possible that new legislation will be introduced, seeking to amend the Telecom Act. However, it is impossible to predict the scope or likelihood of success of any such possible further legislation, or the potential impact on the Company of any such possible further legislation. Risks Relating to Mexican Joint Venture In February, 1998, Marca-Tel announced that it was putting further investment in new fiber routes on hold, awaiting more suitable market and regulatory conditions. Because of the continuing adverse market and regulatory environment in Mexico, Marca-Tel has determined to limit further investment and to reduce its scope of operations. At the present time, the Company does not anticipate significant additional funding to Progress International for investment in Marca-Tel until the market and regulatory conditions in Mexico improve. Failure to provide further significant funding to Progress International is likely to result in a default under Marca-Tel's financial arrangements and could result in the foreclosure of a security interest held by a third party. The Company's carrying value for the Company's investment in Progress International at December 31, 1997 was $11.6 million. The Company's interest in Progress International, and thus its indirect interest in Marca-Tel, therefore could be diluted or lost entirely, which could have a material adverse effect on the Company and the value of the Common Stock and its other securities. Potential Liability of Internet Access Providers The law governing the liability of on-line services providers and Internet access providers for participating in the hosting or transmission of objectionable materials or information currently is unsettled. Under the terms 26 29 of the Telecom Act, both civil and criminal penalties can be imposed for the use of interactive computer services for the transmission of certain indecent or obscene communications. However, this provision was recently found to be unconstitutional by the United States Supreme Court in American Civil Liberties Union v. Janet Reno. Nonetheless, many states have adopted or are considering adopting similar requirements, and the constitutionality of such state requirements remains unsettled at this time. In addition, several private lawsuits have been filed seeking to hold Internet access providers accountable for information which they transmit. In one such case, the court ruled that an Internet access provider is not directly liable for copies that are made and stored on its computer but may be held liable as a contributing infringer where, with knowledge of the infringing activity, the Internet access provider induces, causes or materially contributes to another person's infringing conduct. While the outcome of these activities is uncertain, the ultimate imposition of potential liability on Internet access providers for information which they host, distribute or transport could materially change the way they must conduct business. To avoid undue exposure to such liability, Internet access providers could be compelled to engage in burdensome investigation of subscriber materials or even discontinue offering the service altogether. Risks Relating to Switched Services Resellers Revenues derived from switched services resellers account for substantially all of the Company's switched long distance revenue. A substantial portion of such revenues are produced by a limited number of resellers. Sales to switched services resellers generate low margins for the Company. In addition, these customers frequently choose to move their business based solely on small price changes and generally are perceived in the telecommunications industry as presenting a high risk of payment delinquency or non-payments. The Company's provision for service credits and bad debt was $3.0 million or 1.5% of total revenues in 1996 (when it had $104.0 million of long distance switched services revenue) and $17.4 million or 4.1% of total revenues in 1997 (when it had $258.3 million of long distance switched services revenue). The Company expects service credit and bad debt expense to continue to increase, but seeks to control it so that it will not increase as a percentage of revenues. The Company is continuing to implement procedures to control its exposure to service credit and bad debt expense. Any material increase in service credit and bad debt expense as a percentage of revenues could have a material adverse effect on the Company's results of operations and financial position and on the value of the Common Stock and its other securities. Risks Related to Technological Change The market for the Company's telecommunications services is characterized by rapidly changing technology, evolving industry standards, emerging competition and frequent new product and service introductions. There can be no assurance that the Company will successfully identify new service opportunities and develop and bring new services to market. The Company is also at risk from fundamental changes in the way telecommunications services are marketed and delivered. The Company's data communications service strategy assumes that technology such as Frame Relay and ATM protocols, utilizing fiber optic or copper-based telecommunications infrastructures, will continue to be the primary protocols and transport infrastructure for data communications services. Future technological changes, including changes related to the emerging wireline and wireless transmission and switching technologies, could have a material adverse effect on the Company's business, results of operations, and financial condition. The Company's pursuit of necessary technological advances may require substantial time and expense, and there can be no assurance that the Company will succeed in adapting its telecommunications services business to alternate access devices, conduits and protocols. In addition, recent technological advances that show the potential to greatly expand the capacity of existing and new fiber optic cable, which could greatly increase supply, could have a material adverse effect on the Company. ITEM 2. PROPERTIES The principal properties owned by the Company consist of: (i) the portion of the Network completed or under construction; and (ii) the coast-to-coast microwave system, consisting of microwave transmitters, 27 30 receivers, towers and antennae, auxiliary power equipment, transportation equipment, equipment shelters and miscellaneous components. Generally, the Company's fiber optic system and microwave relay system components are standard commercial products available from a number of suppliers. The principal offices of the Company are located in approximately 105,000 square feet of space in Austin (the "City View Space"). The Company leases the City View Space pursuant to the terms of a lease which expires in December 2004, at a current annual base rental of approximately $1,680,000, and has an option to renew the lease for two seven-year terms at the then-prevailing market rate (but not less than the then-current rental rate) at the time of renewal. The Company has additional offices in Austin, consisting of approximately 76,000 square feet (the "Braker Space"). The Company leases the Braker Space under an agreement which expires in January 2003, at an annual base rental of approximately $570,000. In addition, the Company subleases former office space in two other locations in Austin covering approximately 44,000 square feet and 16,000 square feet. The sublease payments satisfy the Company's monthly rental obligations under the original leases. The Company leases sites for its switches in or near Los Angeles, Dallas, Chicago, Atlanta, Philadelphia and Joplin, Missouri under lease agreements that expire between 2000 and 2005. The total current rental commitments for the switch site leases are approximately $30,000 per month. The Company's six switches are leased under capital leases from DSC Finance Corporation over a term of five years. ITEM 3. LEGAL PROCEEDINGS The Company is involved in various legal proceedings, all of which have arisen in the ordinary course of business and some of which are covered by insurance. In the opinion of the Company's management, none of the claims relating to such proceedings are likely to have a material adverse effect on the financial condition or results of operations of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. 28 31 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS PRICE RANGE OF COMMON STOCK The Company's Common Stock is quoted on the Nasdaq National Market (the "NNM") under the trading symbol "IIXC." The following table sets forth, on a per share basis for the periods indicated, the high and low closing sale prices for the Common Stock as reported by the NNM.
PRICE RANGE ------------ HIGH LOW ---- ---- Fiscal Year 1996 Third quarter (from July 3, 1996)......... $ 21 1/8 $ 11 1/2 Fourth quarter............................ 30 3/4 19 5/8 Fiscal Year 1997 First Quarter............................. 36 1/4 18 3/4 Second Quarter............................ 27 7/8 17 Third Quarter............................. 33 19 1/2 Fourth Quarter............................ 40 1/8 29 3/8
As of March 1, 1998, there were approximately 151 holders of record of the Common Stock. DIVIDEND POLICY IXC Communications has never paid any cash dividends on its Common Stock and does not expect to pay cash dividends on its Common Stock in the foreseeable future. The terms of the Senior Notes Indenture restrict the payment of cash dividends. No dividends may be paid on the Common Stock until all dividends are paid in full on the Company's Convertible Preferred Stock, the Company's 10% Junior Series 3 Cumulation Redeemable Preferred Stock (the "Series 3 Preferred Stock") and the Exchangeable Preferred Stock. Dividends on the Convertible Preferred Stock and the Exchangeable Preferred Stock are payable quarterly in cash (or on or prior to March 31, 1999 and February 15, 2001, at the option of the Company, in additional shares of Convertible Preferred Stock or Exchangeable Preferred Stock, respectively) in arrears at the annual rate of 7 1/4% and 12 1/2% of the aggregate liquidation preference therefore, respectively. The Company's ability to pay cash dividends on shares of Convertible Preferred Stock and the Exchangeable Preferred Stock is limited by the terms of the Senior Notes Indenture and by the terms of the Series 3 Preferred Stock. As of December 31, 1997 the aggregate liquidation preference of the Series 3 Preferred Stock, the Convertible Preferred Stock and the Exchangeable Preferred Stock was $.7 million, $105.5 million and $309.0 million respectively. Dividends on the Series 3 Preferred Stock accumulate at an annual rate of 10% (based on the liquidation preference) plus interest. IXC Communications currently intends to retain future earnings, if any, to finance its operations and fund the growth of its business. Any payment of future dividends on its Common Stock will be at the discretion of the Board of Directors of IXC Communications and will depend upon, among other things, IXC Communications' earnings, financial condition, capital requirements, level of indebtedness, contractual and legal restrictions with respect to the payment of dividends and other factors that IXC Communications' Board of Directors deems relevant. RECENT SALES OF UNREGISTERED SECURITIES On October 31, 1997, the Company consummated an offer (the "Series 3 Tender Offer") to exchange shares of the Company's common stock (the "Common Stock") for all its issued and outstanding shares of the Series 3 Preferred Stock. Each holder that tendered its shares of Series 3 Preferred Stock received approximately 49.85 shares of Common Stock for each share of Series 3 Preferred Stock tendered. An aggregate of 604,970 shares of Common Stock were issued in the Series 3 Tender Offer. The number of shares of Common Stock issued for each share of Series 3 Preferred Stock tendered was calculated by dividing the aggregate per share liquidation preference, including accrued and unpaid dividends, on one share of Series 3 29 32 Preferred Stock as of October 31, 1997 (the expiration date of the Series 3 Tender Offer) by $33.00 (the last reported sale price of the Common Stock on the NNM on October 31, 1997). The aggregate liquidation preference, including accrued and unpaid dividends, on the Series 3 Preferred Stock at October 31, 1997, was approximately $20.6 million (or $1,645 per share). The Common Stock issued in connection with the Series 3 Tender Offer was not registered under the Securities Act. Over 95% of the shares of Series 3 Preferred Stock were tendered prior to the expiration of the Series 3 Tender Offer. The Common Stock issued in the Series 3 Tender Offer was deemed to be exempt from registration under the Securities Act in reliance upon Section 3(a)(9) thereof. No underwriters or placement agents were employed in connection with the Series 3 Tender Offer. The Company intends to redeem the remaining shares of Series 3 Preferred Stock in 1998. ITEM 6. SELECTED FINANCIAL DATA The following table sets forth certain selected historical financial data of the Company. The historical financial data for the Company has been derived from the audited Consolidated Financial Statements of the Company. The selected historical financial data set forth below is qualified in its entirety by, and should be read in conjunction with, "Management's Discussion and Analysis of Financial Condition and Results of Operations," "Business" and the Company's Consolidated Financial Statements, related notes thereto and other financial information included herein.
YEAR ENDED DECEMBER 31, ---------------------------------------------------- 1993 1994 1995 1996 1997 -------- -------- -------- -------- -------- (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Net operating revenue..................... $ 71,123 $ 80,663 $ 91,001 $203,761 $420,710 Operating income (loss)................... (10,596) 14,085 1,429 (14,016) (45,235) Income (loss) before extraordinary gain (loss)................................. (31,812) 5,017 (3,218) (37,448) (94,555) Extraordinary gain (loss)(1).............. 8,495 2,298 (1,747) -- -- Net income (loss)......................... $(23,317) $ 7,315 $ (4,965) $(37,448) $(94,555) Basic and diluted income (loss) per share(2): Before extraordinary gain (loss)....... $ (1.43) $ .13 $ (.21) $ (1.42) $ (3.75) Extraordinary gain (loss).............. .36 .10 (.07) -- -- Net income (loss)...................... $ (1.07) $ .23 $ (.28) $ (1.42) $ (3.75) Weighted average basic shares............. 23,332 24,310 24,335 27,525 30,961 Weighted average diluted shares........... 23,332 24,318 24,335 27,525 30,961 BALANCE SHEET DATA: Cash and cash equivalents................. $ 6,230 $ 6,048 $ 6,915 $ 61,340 $152,720 Total assets.............................. 94,281 105,409 336,475 459,151 917,095 Total debt and capital lease obligations............................ 59,954 69,124 298,794 302,281 320,295 Redeemable preferred stock................ -- -- -- -- 403,368 Stockholders' equity (deficit)............ 6,871 14,189 6,858 63,479 (47,955) OTHER FINANCIAL DATA: EBITDA(3)................................. $ 10,465 $ 26,206 $ 18,867 $ 13,225 $ 15,513 Capital expenditures...................... 27,008 7,087 23,670 136,391 314,327
- --------------- (1) The extraordinary items for all periods result from early extinguishment of debt (involving a related party in 1994), including capital lease obligations, net of applicable income taxes. (2) The basic and diluted income (loss) per share amounts prior to 1997 have been restated as required to comply with Statement of Financial Accounting Standards No. 128, Earnings Per Share and the Securities and Exchange Commission Staff Accounting Bulletin No. 98. For further discussion of basic and diluted income (loss) per share and the impact of Statement No. 128, see note 2 to the notes to the consolidated financial statements. 30 33 (3) EBITDA is operating income (loss) plus depreciation and amortization. The Company has included information concerning EBITDA because it believes that EBITDA is used by certain investors as one measure of an issuer's historical ability to service its debt. EBITDA is not a measurement determined in accordance with GAAP, should not be considered in isolation or as a substitute for measures of performance prepared in accordance with GAAP and is not necessarily comparable with similarly titled measures for other companies. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion and analysis of financial condition and results of operations contains statements that constitute "forward-looking" statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements relate to future events or the future financial performance of the Company and involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among other things, the following: general economic and business conditions; industry capacity; uncertainty regarding and changes in customer preferences; demographic changes; competition; changes in methods of marketing and technology; changes in political, social and economic conditions and regulatory factors; and various other factors beyond the Company's control. In addition, prospective investors should specifically consider the various factors identified in this Form 10-K including the matters set forth under "Business -- Risk Factors," which could cause actual results to differ materially from those indicated by such forward-looking statements. The Company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. In light of these risks and uncertainties, there can be no assurance that the results referred to in forward-looking statements contained in this Form 10-K will in fact transpire. The following discussion should be read in conjunction with the Consolidated Financial Statements and the related Notes thereto, included elsewhere in this Form 10-K. OVERVIEW The Company is a leading provider of telecommunications transmission, switched long distance and associated services to long distance and other communications companies. The Company's Network is expected to include over 11,500 digital route miles by the end of the first quarter of 1998. Additions to the Network are currently under construction. Subject to the availability of capital and the completion of cost-sharing arrangements currently being negotiated, the Network is planned to include over 18,000 digital route miles by the end of 1998, and over 20,000 digital route miles by the end of 1999. The Company provides two principal products: transmission of voice and data over dedicated circuits ("private lines") and transmission of long distance traffic processed through the Company's switches ("long distance switched services"). During the first quarter of 1997, the Company began providing Frame Relay and ATM-based switched data services in order to capitalize on the growing demand for Internet and electronic data transfer services. Private Line Business. Substantially all of the Company's revenue in 1995 and prior years, approximately 49% of its revenue for 1996 and 39% for 1997 was generated by its private line business, which has historically provided positive EBITDA and cash flow (even in years when the Company incurred net losses). The Company provides private line service to customers generally either on a "take or pay" long-term basis or, after contract expiration, on a month-to-month basis. The Company's private line transmission agreements are generally long-term leases which provide for monthly payment in advance on a fixed-rate basis, calculated according to the capacity and length of the circuit used. During 1997, the Company leased transmission capacity to over 230 customers, with the five largest private line customers during that year accounting for approximately 52% of private line revenue and approximately 20% of the Company's total revenue. Three of the Company's largest private line customers, AT&T, WorldCom and Frontier, accounted for approximately 6.4%, 4.2% and 4.1%, respectively, of the Company's total revenue in 1997. The largest component of the cost of services of the private line business is the expense of leasing off-net capacity from other carriers to meet customer needs which the Company cannot currently meet with its own Network due to capacity or geographic constraints. In the normal course of business the Company has entered 31 34 into capacity-exchange agreements with other carriers. Pursuant to such agreements, the Company exchanges excess capacity on its Network with other carriers for capacity on the other carriers' networks. Such exchange agreements generally do not provide for cash payments to be made, but rather allow the Company to substantially reduce the cash payments it must make for off-net capacity from other carriers. Such exchanges are accounted for at the fair value of the capacity exchanged, as non-cash revenue and expense in equal amounts over the term of the agreements. In 1997, 1996 and 1995 the Company recorded revenue and expense of $14.0 million, $14.0 million and $13.8, respectively, relating to such exchanges. Long Distance Switched Services Business. At the end of 1995, the Company expanded into the business of selling long distance switched services to long distance resellers. In 1997 and 1996, this business contributed 61% and 51%, respectively, of the Company's total revenue. The Company sells these services on a per-call basis, charging by the MOUs, with payment due monthly after services are rendered. The Company's rates for calls generally vary with the duration of the call, the day and time of day the call was made and whether the traffic is intrastate, interstate or international. At December 31, 1997, the Company had over 100 long distance reseller customers. The Company has achieved significant revenue growth since it began offering long distance switched services. The Company's largest switched services customer, Excel, accounted for approximately 46.5% of the switched long distance business and approximately 28.6% of the Company's total revenue in 1997. The three main components of long distance switched services business costs are access costs with LECs and other providers, the expense of leasing off-net capacity from other carriers, and operations and administration expenses. The LEC access charges, which are usage-based and vary according to the LATA in which calls originate and terminate, represent a majority of the total costs for the long distance switched services business. Long distance network leasing costs are incurred as the Company leases capacity to carry traffic to areas where its Network does not reach or is already running at or near capacity. As the Company transfers traffic onto its newly constructed network routes, the Company expects to realize cost savings because it will be able to reduce the amount of long distance network capacity that otherwise would be required to be leased from other parties. However, the Company does not intend to expand its Network to all areas of the United States. Accordingly, the Company anticipates that it will continue to lease capacity from other carriers regardless of the Network expansion. Because the long distance switched services business generally has lower margins than the private line business, increases in switched long distance volumes have caused and will continue to cause a decrease in the Company's overall margins. Although the Company has been successful in establishing its nationwide long distance switched services business with significant revenue, EBITDA for the long distance switched services business has historically been negative through 1997 and may be negative in 1998. EBITDA losses in the long distance switched services business were greatly reduced during the second half of 1997, with consecutive quarter losses being reduced over 50% from the second to the third quarter and over 25% from the third quarter to the fourth quarter. The Company believes the improvements in operating results from long distance switched services are the result of three major factors: First, the Company historically priced its interstate services to customers at a blended rate based upon the expected usage and mix of traffic between high-access-cost and low-access-cost LATAs. During 1997 certain of the Company's customers generated switched traffic comprised of a substantially higher mix of minutes originating or terminating in high-access-cost LATAs than was anticipated at the time the customer contracts were negotiated and pricing established. During the second half of 1997, this situation improved significantly as the Company established rates more directly related to the customer's actual mix of traffic. However, the Company experienced substantial negative gross profits in the fourth quarter of 1997 with respect to international services delivered to a high-volume customer due to unfavorable international settlement costs not adequately covered by the prices charged to the customer. The Company no longer offers such services to the customer. Second, the Company configures its switched network to account for the expected traffic distribution of its customers. In certain areas during the first half of 1997, traffic volume was higher than expected causing certain of the Company's switches to run at capacity and requiring the Company to overflow excess traffic onto 32 35 other carriers' switched networks. The Company has added ports to its existing switches and deployed two additional switches to better manage the current and projected volumes and mixes of traffic in order to enhance Network efficiency. Third, the Company benefitted from the impact of the FCC mandated rate reductions for the connection charges paid by the long distance carriers to LEC's. There can be no assurance that the improvements in long distance switched services' EBITDA experienced during the last half of 1997 will continue in the future. In addition, some increases in certain elements of access charges are anticipated in mid-1998, although the overall effect of access charge reform on the Company is uncertain. The Company expects that as competition increases, prices for both private line and long distance switched services will decline. These price declines will effect both the Company's revenue and its cost of services. Capital Expenditures. The Company has spent significant amounts of capital to develop its coast-to-coast Network to service its private line, long distance switched services and other businesses and is continuing a substantial expansion of its Network. On a cash basis, the Company spent $314.3 million for capital expenditures during 1997 and estimates that it will spend approximately $525.0 million in 1998. The Company expects to continue making substantial capital expenditures thereafter for additional fiber expansion and the deployment of additional optronics to provide capacity for revenue growth, as well as additional voice and data switches for anticipated growth in voice and data traffic. Acquisition Transactions. In December 1997, the Company entered into an agreement to acquire NLD, a provider of long distance services to businesses and association programs, agents and other long distance carriers. NLD has annualized revenue in excess of $100.0 million. The transaction is intended to be a tax-free, pooling-of-interests merger in which the NLD shares will be acquired for approximately 4.3 million shares of the Company's Common Stock. The transaction, which requires regulatory approvals and NLD shareholder approval, is anticipated to close in mid-1998. Joint Ventures. Marca-Tel, a joint venture in which the Company indirectly holds a minority interest, obtained a license from the Mexican government to provide certain telecommunication services in Mexico. The Company has contributed $37.0 million as of December 31, 1997 to Progress International which owns a 49.0% interest in Marca-Tel, substantially all of which funds have been used to fund Marca-Tel at December 31, 1997. The Company accounts for its investment in Progress International (and indirect investment in Marca-Tel) using the equity method and, as a result, records a percentage of Marca-Tel's operating results (profits or losses). In October 1997, the Company formed a joint venture with Telenor AS, the Norwegian national telephone company, to provide telecommunication services to carriers and resellers in nine European countries. The joint venture is owned 40 percent by the Company, 40 percent by Telenor, and 20 percent by Clarion Resources Communications Corporation, a U.S.-based telecommunications company in which Telenor owns a controlling interest. In December 1997, the Company formed Unidial Communications Services, LLC, a joint venture with Unidial. The joint venture is building a direct sales force to market and sell Unidial's and the Company's products over the Company's Network. The joint venture is owned 80 percent by Unidial and 20 percent by the Company. Subject to the terms of the joint venture agreement, upon request of the President of the joint venture, the Company is obligated to invest up to an additional $7.5 million during 1998 and after November 1, 1998, it may be obligated to invest up to an additional $4.0 million. After its funding obligation is fulfilled, the Company is not required to fund any future investments to the joint venture, but to the extent Unidial funds such investments alone, the Company's interest in the joint venture may be diluted. PSINet Transaction. To enhance the Company's product and service offerings, in February 1998, the Company consummated agreements with PSINet which allow each party to market and sell the products and services of the other party. Under the terms of the agreements, the Company will provide PSINet with an 33 36 IRU in 10,000 miles of OC-48 transmission capacity on its Network over a 20-year period in exchange for approximately 10.2 million shares representing 20% (post-issuance) of PSINet common stock. If the value of the PSINet common stock received by the Company is less than $240.0 million at the earlier of one year after the final delivery of the transmission capacity (scheduled for late-1999) or four years after the transaction's closing, PSINet, at its option, will pay the Company cash and/or deliver additional PSINet common stock to increase the value of the cash and Common Stock paid by PSINet to $240.0 million. Upon delivery of the transmission capacity to PSINet, the Company will begin to receive a maintenance fee which, as the full capacity has been delivered, should increase to approximately $11.5 million per year. The Company will account for its investment in PSINet using the equity method and, as a result will record a percentage of PSINet's operating results (profits or losses). Fiber Sales and IRUs. In connection with the Network expansion, the Company has entered into various agreements to sell fiber usage rights. Sales of fiber usage rights are recorded as deferred revenue and are included in other non-current liabilities in the accompanying consolidated balance sheets. Revenue is recognized over the terms of the related agreements. In 1997, the Company received approximately $57.0 million in cash from these sales but recognized only approximately $.8 million as revenue from these sales. Financing Transactions. In October 1995, the Company issued $285.0 million of Senior Notes primarily to finance a portion of the Network expansion. In July 1996, the Company raised gross proceeds of approximately $83.3 million (before deducting certain expenses) through its initial public offering of the Company's Common Stock (the "IPO") and $12.5 million from the private placement of the Company's Common Stock with GEPT (the "GEPT Private Placement"). In April 1997, the Company raised gross proceeds of $100 million (before deducting discounts and certain expenses) through the sale of its Convertible Preferred Stock. In August 1997, the Company raised gross proceeds of $300 million (before deducting discounts and certain expenses) through the sale of its Exchangeable Preferred Stock. 34 37 QUARTERLY RESULTS OF OPERATIONS The following table presents certain unaudited quarterly financial information for each of the Company's quarters in 1996 and 1997. This quarterly information has been prepared on the same basis as the audited financial statements appearing elsewhere in this Form 10-K and includes all adjustments (which consist only of normal recurring adjustments) necessary to present fairly the unaudited quarterly results set forth herein. The Company's quarterly results have in the past been subject to fluctuations, and thus, the operating results for any quarter are not necessarily indicative of results for any future period. The Company may experience substantial fluctuations in quarterly results in the future as a result of various factors, including customer turnover, variations in the success of its customers' businesses and price competition. In addition, delays in completion of the construction of new network routes could cause quarterly results to vary.
1996 QUARTER ENDED 1997 QUARTER ENDED ------------------------------------------------ ------------------------------------------------ MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 -------- -------- ------------ ----------- -------- -------- ------------ ----------- (DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Net operating revenue: Private line circuits..... $ 22,628 $ 24,003 $25,766 $27,396 $ 30,869 $ 38,494 $ 41,948 $ 51,087 Switched long distance.... 3,622 19,004 35,250 46,092 53,041 50,371 70,292 84,608 -------- -------- ------- ------- -------- -------- -------- -------- Net operating revenue....... 26,250 43,007 61,016 73,488 83,910 88,865 112,240 135,695 Operating expenses: Cost of services.......... 15,600 31,643 43,774 52,452 68,982 74,150 83,889 98,106 Operations and administration.......... 10,417 10,786 12,083 13,781 16,567 18,664 22,240 22,599 Depreciation and amortization............ 6,010 6,644 7,280 7,307 10,002 13,363 19,402 17,981 -------- -------- ------- ------- -------- -------- -------- -------- Total operating expenses.............. 32,027 49,073 63,137 73,540 95,551 106,177 125,531 138,686 -------- -------- ------- ------- -------- -------- -------- -------- Operating loss.............. $ (5,777) $ (6,066) $(2,121) $ (52) $(11,641) $(17,312) (13,291) (2,991) ======== ======== ======= ======= ======== ======== ======== ======== Net loss.................... $(11,699) $(12,067) $(5,624) $(8,058) $(19,878) $(28,810) (26,788) (19,079) ======== ======== ======= ======= ======== ======== ======== ======== Basic and diluted loss per share(2).................. $ (.50) $ (.51) $ (.20) $ (.28) $ (.66) $ (1.01) $ (1.08) $ (.99) ======== ======== ======= ======= ======== ======== ======== ======== OTHER FINANCIAL AND OPERATIONS DATA: EBITDA(1)................. $ 233 $ 578 $ 5,159 $ 7,255 $ (1,639) $ (3,949) 6,111 14,990 Minutes of use (in millions)........... 33.9 199.3 375.1 496.9 606.0 636.2 825.3 966.9
- --------------- (1) EBITDA is operating loss plus depreciation and amortization. The Company has included information concerning EBITDA because it believes that EBITDA is used by certain investors as one measure of an issuer's historical ability to service its debt. EBITDA is not a measurement determined in accordance with GAAP, should not be considered in isolation or as a substitute for measures of performance prepared in accordance with GAAP and is not necessarily comparable with similarly titled measures for other companies. (2) Basic and diluted loss per share calculations for each of the quarters were based on the weighted average number of shares outstanding for each period, therefore the sum of the quarters may not necessarily be equal to the full year basic and diluted loss per share amount. The 1996 and first three quarters of 1997 loss per share amounts have been restated to comply with Statement of Financial Accounting Standards No. 128, Earnings per Share and the Securities and Exchange Commission Staff Accounting Bulletin No. 98. See note 2 to the consolidated financial statements. RESULTS OF OPERATIONS 1997 Compared With 1996 Net operating revenue for 1997 increased 106.5% to $420.7 million from $203.8 million for 1996. The increase is primarily a result of both the increased growth of the Company's long distance switched services 35 38 business and private line business. Long distance switched services revenue increased 148.5% to $258.3 million for 1997 compared to $104.0 million for 1996. Billable MOUs were 3.03 billion in 1997, compared to 1.11 billion for 1996. Revenue per MOU decreased from 9.3c in the fourth quarter of 1996 to 8.8c in the fourth quarter of 1997 due to competitive price pressure, which is expected to continue. Revenue for the Company's private line business for 1997 increased 62.7% to $162.4 million from $99.8 million for 1996. The private line increase in revenue correlates with the additional fiber capacity available, or anticipated to be available, on the Network. Cost of services consists principally of access charges paid to LECs and transmission lease payments to, and exchanges with, other carriers. Cost of services for 1997 increased 126.6% to $325.1 million from $143.5 million for 1996. The increase is primarily a result of additional leases for transmission capacity supporting the Company's private line and switched long distance services businesses, MOUs provided by other carriers and access charges paid to LECs in connection with the increased long distance switched services revenue. Cost of services increased faster on a percentage basis than revenue principally because switched long distance services revenues (which represent an increasing portion of total revenues) generate substantially lower gross margins than private line revenues and because of certain uneconomic customer contracts that the Company had in the first two quarters of 1997 and an uneconomic customer contract that the Company had in the fourth quarter of 1997. The Company has historically had a relatively low cost of services as a percentage of revenue because substantially all its revenue was derived from private line services, generally made at a relatively low cost over its own network. Cost of services in the switched long distance services business are substantially greater than in the private line business due to the additional costs of LEC access charges, leases for long distance circuits and MOUs obtained from other carriers. In July 1997 the FCC mandated rate reductions for the connection charges paid by the long distance carriers to LEC's. The favorable impact of these rate reductions are reflected in the financial statements. The Company expects its cost of services as a percentage of revenue to increase over historical results as the switched services revenue becomes a larger share of the Company's business. Operations and administration expenses for 1997 increased 70.1% to $80.1 million from $47.1 million for 1996. This increase is primarily the result of employee costs and other operating expenses associated with the growth in the Company's Network. The Company anticipates that as it expands its long distance switched services business and its fiber network, including the projected integration of NLD's operations into the Company, operations and administration expenses will continue to increase, but will continue to decline as a percentage of revenue. Depreciation and amortization for 1997 increased 123.2% to $60.7 million from $27.2 million for 1996. The increase is primarily the result of depreciation related to portions of the Company's Network completed during 1997. Depreciation and amortization will increase in subsequent periods, as the Company's continuing investment in newly constructed routes and other Network equipment is depreciated. Interest income for 1997 decreased from $10.2 million for 1996 to $7.7 million as proceeds from the Company's 1996 and 1997 debt and equity placements were used to construct the Company's network and operate its business. The decrease from 1996 was offset partially by the interest earned on the proceeds of the Company's sale of $100.0 million of the Convertible Preferred Stock in April 1997 and $300.0 million of the Exchangeable Preferred Stock in August 1997. Interest expense decreased from $37.1 million in 1996 to $31.2 million in 1997. The decrease is primarily the result of additional capitalization of interest related to the fiber network construction. Equity in losses of unconsolidated subsidiaries for 1997 were $23.8 million compared to $2.0 million in 1996. These losses primarily relate to the Company's share of losses in the Mexican joint venture, which began operations during the first quarter of 1997, while continuing to complete its network construction. At December 31, 1997, the Company's net carrying value in its investment in the Mexican joint venture was $11.6 million. In February 1998, Marca-Tel announced that it was putting further investment on new fiber routes on hold, awaiting more suitable regulatory and market conditions. Failure to provide further significant funding to Progress International is likely to result in a default under Marca-Tel's financing arrangements and could result in the foreclosure of a third party's security interest in Progress International's interest in 36 39 Marca-Tel. The Company's interest in Progress International, and thus its indirect interest in Marca-Tel, therefore could be diluted or lost entirely. Income tax expense for 1997 was $1.4 million compared to a benefit of $6.0 million for 1996. The increase occurred because the Company recognized tax benefits related to the favorable resolution of federal income tax examinations in 1996. For accounting purposes, the Company is not recognizing any tax benefits relating to losses incurred during both 1996 and 1997. The Company experienced a net loss applicable to common shareholders of $116.2 million for 1997 compared to $39.2 million for 1996 as a result of the factors discussed above and the increase in preferred stock dividends in 1997. The increase in preferred stock dividends of $19.9 million is the result of issuance of the Convertible Preferred Stock in April 1997 and the Exchangeable Preferred Stock in August 1997. 1996 Compared With 1995 Net operating revenue for 1996 increased 124.0% to $203.8 million from $91.0 million for 1995. The increase is primarily a result of the successful commencement of the Company's long distance switched services business (particularly the addition of Excel as a customer). Switched long distance services revenue were $104.0 million for 1996 (compared to $1.4 million for 1995). The vast majority of this revenue was generated in the third and fourth quarters of 1996. Billable MOUs were 1.1 million for 1996. Revenue per MOU decreased from 10.7c in the first quarter of 1996 to 9.3c in the fourth quarter of 1996. This decrease resulted from competitive price pressure, which is expected to continue. Revenue for the Company's private line business for 1996 increased 11.4% to $99.8 million from $89.6 million for 1995. Cost of services for 1996 increased 259.6% to $143.5 million from $39.9 million for 1995. The increase is primarily a result of the addition of long distance leases supporting the long distance switched services business, MOUs leased from other carriers and access charges paid to LECs in connection with the long distance switched services business. The Company did not incur any significant expenses for the long distance switched services business during 1995. Operations and administration expenses for 1996 increased 45.8% to $47.1 million from $32.3 million for 1995. This increase is primarily the result of employee costs and other operating expenses associated with the Company's long distance switched services business. Depreciation and amortization for 1996 increased 56.3% to $27.2 million from $17.4 million for 1995. The increase is primarily the result of depreciation related to capital expenditures associated with the Company's expansion and improvement of its Network. Interest income for 1996 increased to $10.2 million from $3.0 million for 1995. The increase is primarily related to interest earned on the investment of the proceeds from the sale of the Senior Notes issued in October 1995 and the interest earned in 1996 on the investment of the proceeds from the IPO and the GEPT Private Placement. Interest expense for 1996 increased to $37.1 million from $14.6 million for 1995. The increase is primarily the result of interest expense attributable to the Senior Notes, which were issued during the fourth quarter of 1995. Equity in the net loss of unconsolidated subsidiaries for 1996 was $2.0 million in 1996 compared to slight income for 1995. The loss was primarily the result of start-up losses relating to the Company's investment in its Mexican Joint Venture. Income taxes for 1996 resulted in a $6.0 million tax benefit compared to a benefit of $1.7 million for 1995. The difference between the tax benefits recorded for 1996 and the expected benefit at the federal statutory rate is primarily due to state taxes, losses incurred (the tax benefit of which is not recorded due to uncertainty regarding its realization), and resolution of Federal income tax examinations which were concluded in the second and third quarters of 1996. 37 40 The Company experienced a net loss of $37.4 million for 1996 compared to a net loss of $5.0 million for 1995 as a result of the factors discussed above. LIQUIDITY AND CAPITAL RESOURCES Except for the historical information contained below, the matters discussed in this section are forward-looking statements that involve a number of risks and uncertainties. The Company's actual liquidity needs, capital resources and results may differ materially from the discussion set forth below in such forward-looking statements. For a discussion of important factors that could materially affect such matters, see "Business-Risk Factors." Through 1995, the Company's private line operations provided positive cash flow with adequate liquidity to meet the Company's operational needs. However, the Company's capital expenditures and, since the issuance of the Senior Notes in the fourth quarter of 1995, its interest expense and operating losses, have been financed with the proceeds of debt and equity securities. For 1997 and 1996, the Company's EBITDA minus interest expense minus capital expenditures plus the increases in working capital were negative $284.1 million and negative $130.2 million, respectively. Cash provided by operating activities increased $43.1 million to $14.3 million in 1997, compared to cash used in operating activities of $28.7 million in 1996, primarily due to the current year's proceeds relating to fiber rights sales in 1997 of $69.7 million, off-set primarily by increases in net losses. Cash used in investing activities in 1997 was $298.4 million, primarily from the Company's capital spending of $314.3 million and investment in non-consolidated subsidiaries (chiefly the Mexican joint venture) of $35.5 million being partially offset by the release of $51.4 million of funds from escrow under the Senior Notes. In 1996 cash provided by investing activities was $3.1 million as $136.4 million in capital expenditures and $7.3 million of investments in unconsolidated subsidiaries were offset by $146.8 million in net release of funds from escrow under the Senior Notes. Cash provided by financing activities was $375.5 million in 1997 compared to $80.0 million in 1996. The year over year increase was due to $95.4 million in net proceeds from issuing the Convertible Preferred Stock in April 1997 and $288.0 in net proceeds from issuing the Exchangeable Preferred Stock in August 1997. In 1996, the net cash provided by financing activities was largely due to $94.1 million from issuing common stock offset mainly by payments of debt service. As of February 28, 1998, the Company had approximately $106.0 million in cash. The Company anticipates incurring a substantial amount of additional indebtedness in 1998. The Company is in discussions with various investment bankers, vendors and lending institutions regarding substantial additional equity and/or debt financing for 1998 and beyond. The Company seeks to obtain sufficient funding from these sources plus cash receipts from fiber sales and operations for the following major uses of cash: (i) the Network expansion and other capital expenditures; (ii) debt service; (iii) lease payments; (iv) funding its joint ventures; and (v) working capital. Capital spending in 1998 is projected to be approximately $525.0 million. After 1998, capital expenditures are expected to be reduced, but continue to be substantial. There can be no assurance that the Company will be successful in obtaining the necessary financing to meet its needs. A failure to raise cash would delay or prevent such capital expenditures and the construction of the Network expansion. Also, the foregoing capital expenditure and cash requirements for 1998 do not take into account any acquisitions. The Company is required to make interest payments in the amount of $35.6 million on the Senior Notes each year. For 1997, EBITDA was insufficient to cover the Company's debt service requirements under the Senior Notes. The Company anticipates that such payments during 1998 will be made from cash on hand. The Company is also required to make principal payments of $4.0 million on other debt in 1998 including quarterly principal payments of $560,000 from March 31, 1998 through December 31, 1999. In October 1997, the Company exchanged 96.7% of its Series 3 Preferred Stock for Common Stock. Each stockholder of Series 3 Preferred Stock received 49.85 shares of Common Stock for each share of Series 3 Preferred Stock. As a result of this exchange 12,136 shares of Series 3 Preferred Stock were retired 38 41 and 604,871 shares of Common Stock were issued. At December 31, 1997, the aggregate liquidation preference of the remaining outstanding Series 3 Preferred Stock was $692,000. The Company expects to redeem the remaining Series 3 Preferred Stock during 1998. The Company is required to make minimum annual lease payments for facilities, equipment and transmission capacity used in its operations. In 1998, 1999 and 2000 the Company is currently required to make payments of approximately $10.7 million, $10.7 million and $9.3 million, respectively, on capital leases and $32.6 million, $8.7 million and $6.3 million, respectively, on operating leases. The Company expects to incur additional operating and capital lease costs in connection with the Network expansion. In connection with its Network expansion, the Company has entered into various construction and installation agreements with contractors. Total commitments remaining under these agreements were approximately $77.6 million at December 31, 1997. These commitments are expected to be paid during 1998. In connection with the Network expansion, as of December 31, 1997, the Company had committed to pay $42.0 million in shared construction costs for fiber usage rights on other long distance carriers' networks. Estimates of these shared construction costs are included in the Company's 1998 capital expenditure estimates. Pursuant to these agreements relating to the construction of the Network expansion, the Company has committed to pay a total of $30.4 million for periods ranging from twenty to twenty-five years for maintenance and license fees. At the present time, the Company does not anticipate significant additional funding to Progress International for investment in Marca-Tel until the regulatory and market conditions in Mexico improve. The Company is not obligated to continue to fund Progress International and the Senior Notes Indenture and the terms of the Exchangeable Preferred Stock contain significant limitations on the amount the Company may invest in Progress International and other non-majority owned entities. However, failure to provide further significant funding to Progress International is likely to result in a default under Marca-Tel's financing arrangements and could result in the foreclosure of the third party's security interest. The Company's interest in Progress International, and thus its indirect interest in Marca-Tel, therefore could be diluted or lost entirely. See "Business -- Mexican Joint Venture." The forward-looking statements set forth above with respect to the estimated cash requirements relating to capital expenditures, the Company's ability to meet such cash requirements and the Company's ability to service its debt are based on certain assumptions as to future events. Important assumptions, which if not met, could adversely affect the Company's ability to achieve satisfactory results include that: (i) there will be no significant delays or cost overruns with respect to the Network expansion; (ii) the Company's contractors and partners in cost-saving arrangements will perform their obligations; (iii) rights-of-way can be obtained in a timely, cost-effective basis; (iv) the routes of the Network expansion scheduled for completion in 1998 are substantially completed on schedule; (v) the Company will continue to increase traffic on its Network; and (vi) the Company can obtain vendor financing. Year 2000 Risks Certain of the Company's older computer programs identify years with two digits instead of four. This is likely to cause problems because the programs may recognize the year 2000 as the year 1900. These Year 2000 Problems could result in a system failure or miscalculations disrupting operations, including a temporary inability to process transactions, send invoices or engage in similar normal business activities. The Company has completed an assessment identifying which programs will have to be modified or replaced in order to function properly with respect to dates in the year 2000 and thereafter. The Company believes that the cost of modifying those systems that were not already scheduled for replacement for business reasons prior to 2000 is immaterial. Updating the current software to be Year 2000-compliant is scheduled to be completed by mid-1999, prior to any anticipated impact on operating systems. Although the Company does not expect Year 2000 Problems to have a material adverse effect on its internal operations, it is possible that Year 2000 Problems could have a material adverse effect on (i) the Company's suppliers and their ability to service the Company, to accurately invoice for services rendered and to accurately process payments received; and (ii) the Company's customers and their ability to continue to utilize the Company's services, to collect from 39 42 their customers and to pay the Company for services received. The cumulative effect of such problems, if they occur, could have a material adverse effect on the Company and the value of the Common Stock and its other securities. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Not applicable. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA See the Index included at "Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K." ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 40 43 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this item will be contained in the Company's Proxy Statement for its Annual Meeting of Stockholders to be filed with the Commission within 120 days after December 31, 1997 and is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION The information required by this item will be contained in the Company's Proxy Statement for its Annual Meeting of Stockholders to be filed with the Commission within 120 days after December 31, 1997 and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this item will be contained in the Company's Proxy Statement for its Annual Meeting of Stockholders to be filed with the Commission within 120 days after December 31, 1997 and is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this item will be contained in the Company's Proxy Statement for its Annual Meeting of Stockholders to be filed with the Commission within 120 days after December 31, 1997 and is incorporated herein by reference. 41 44 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) Documents filed as part of this Report:
PAGE ---- (1) Index to Financial Statements: Report of Independent Auditors.............................. F-1 Consolidated Balance Sheets as of December 31, 1997 and F-2 1996........................................................ Consolidated Statements of Operations for the years ended F-3 December 31, 1997, 1996 and 1995............................ Consolidated Statements of Changes in Stockholders' Equity F-4 for the years ended December 31, 1997, 1996 and 1995........ Consolidated Statements of Cash Flows for the years ended F-5 December 31, 1997, 1996 and 1995............................ Notes to Consolidated Financial Statements.................. F-7 (2) Index to Financial Statement Schedules: All Financial Statement Schedules for which provision is made in the applicable accounting regulations of the Commission (i) are included in the notes to the financial statements included in this report, (ii) are not required under the related instruction or (iii) are inapplicable and, therefore, have been omitted. (3)(a) Exhibits:
EXHIBIT NUMBER DESCRIPTION - ------- ----------- 2.1 Stock Acquisition Agreement and Plan of Merger by and among IXC Communications, Inc., IXC Long Distance, Inc., Pisces Acquisition Corp. and Network Long Distance, Inc. dated as of December 19, 1997 (incorporated by reference to Exhibit 2.1 of IXC Communications, Inc.'s Current Report on Form 8-K dated December 19, 1997 and filed with the Commission on December 23, 1997). 3.1+ Restated Certificate of Incorporation of IXC Communications, Inc., as amended. 3.2 Bylaws of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 3.2 of IXC Communications, Inc.'s Quarterly Report on Form 10-Q for the quarter ended September 30, 1997 filed with the Commission on November 14, 1997 (the "September 30, 1997 10-Q")). 4.1 Indenture dated as of October 5, 1995 by and among IXC Communications, Inc., on its behalf and as successor-in-interest to I-Link Holdings, Inc. and IXC Carrier Group, Inc., each of IXC Carrier, Inc., on its behalf and as successor-in-interest to I-Link, Inc., CTI Investments, Inc., Texas Microwave Inc. and WTM Microwave Inc., Atlantic States Microwave Transmission Company, Central States Microwave Transmission Company, Telcom Engineering, Inc., on its behalf and as successor-in-interest to SWTT Company and Microwave Network, Inc., Tower Communication Systems Corp., West Texas Microwave Company, Western States Microwave Transmission Company, Rio Grande Transmission, Inc., IXC Long Distance, Inc., Link Net International, Inc. (collectively, the "Guarantors"), and IBJ Schroder Bank & Trust Company, as Trustee (the "Trustee), with respect to the 12 1/2% Series A and Series B Senior Notes due 2005 (incorporated by reference to Exhibit 4.1 of IXC Communications, Inc.'s and each of the Guarantor's Registration Statement on Form S-4 filed with the Commission on April 1, 1996 (File No. 333-2936) (the "S-4")). 4.2 Form of 12 1/2% Series A Senior Notes due 2005 (incorporated by reference to Exhibit 4.6 of the S-4).
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EXHIBIT NUMBER DESCRIPTION - ------- ----------- 4.3 Form of 12 1/2% Series B Senior Notes due 2005 and Subsidiary Guarantee (incorporated by reference to Exhibit 4.8 of Amendment No. 1 to IXC Communications, Inc.'s Registration Statement on Form S-1 filed with the Commission on June 13, 1996 (File No. 333-4061) (the "S-1 Amendment")). 4.4 Amendment No. 1 to Indenture and Subsidiary Guarantee dated as of June 4, 1996 by and among IXC Communications, Inc., the Guarantors and the Trustee (incorporated by reference to Exhibit 4.11 of the S-1 Amendment). 4.5 Purchase Agreement dated as of March 25, 1997 by and among IXC Communications, Inc., Credit Suisse First Boston Corporation ("CS First Boston") and Dillon Read & Co. Inc. ("Dillon Read") (incorporated by reference to Exhibit 4.12 of IXC Communications, Inc.'s Quarterly Report on Form 10-Q for the quarter ended March 31, 1997 filed with the Commission on May 15, 1997 (the "March 31, 1997 10-Q")). 4.6 Registration Rights Agreement dated as of March 25, 1997 by and among IXC Communications, Inc., CS First Boston and Dillon Read (incorporated by reference to Exhibit 4.13 of the March 31, 1997 10-Q). 4.7 Amendment to Registration Rights Agreement dated as of March 25, 1997 by and between IXC Communications, Inc. and GEPT (incorporated by reference to Exhibit 4.14 of the March 31, 1997 10-Q). 4.8 Registration Rights Agreement dated as of July 8, 1997 among IXC Communications, Inc. and each of William G. Rodi, Gordon Hutchins, Jr. and William F. Linsmeier (incorporated by reference to Exhibit 4.15 of IXC Communications, Inc.'s Quarterly Report on Form 10-Q for the quarter ended June 30, 1997, as filed with the Commission on August 6, 1997 (the "June 30, 1997 10-Q")). 4.9 Registration Rights Agreement dated as of July 8, 1997 among IXC Communications, Inc. and each of William G. Rodi, Gordon Hutchins, Jr. and William F. Linsmeier (incorporated by reference to Exhibit 4.16 of the June 30, 1997 10-Q). 4.10 Purchase Agreement dated as of August 14, 1997 by and among IXC Communications, Inc. and the initial purchasers named in Schedule A thereto (incorporated by reference to Exhibit 4.1 of IXC Communications, Inc.'s Current Report on Form 8-K dated August 20, 1997 and filed with the Commission on August 28, 1997 (the "8-K")). 4.11 Indenture dated as of August 15, 1997 between IXC Communications, Inc. and The Bank of New York (incorporated by reference to Exhibit 4.2 of the 8-K). 4.12 Registration Rights Agreement dated as of August 14, 1997 by and among IXC Communications, Inc. and the purchasers named therein (incorporated by reference to Exhibit 4.3 of the 8-K). 4.13+ First Supplemental Indenture dated as of October 23, 1997 among IXC Communications, Inc., the Guarantors, IXC International, Inc. and IBJ Schroder Bank of Trust Company. 4.14+ Second Supplemental Indenture dated as of December 22, 1997 among IXC Communications, Inc., the Guarantors, IXC Internet Services, Inc., IXC International, Inc. and IBJ Schroder Bank & Trust Company. 4.15+ Third Supplemental Indenture dated as of January 6, 1998 among IXC Communications, Inc., the Guarantors, IXC Internet Services, Inc., IXC International, Inc. and IBJ Schroder Bank & Trust Company. 10.1 Office Lease dated June 21, 1989 with USAA Real Estate Company, as amended (incorporated by reference to Exhibit 10.1 of the S-4).
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EXHIBIT NUMBER DESCRIPTION - ------- ----------- 10.2 Equipment Lease dated as of December 1, 1994 by and between DSC Finance Corporation and Switched Services Communications, L.L.C.; Assignment Agreement dated as of December 1, 1994 by and between Switched Services Communications, L.L.C. and DSC Finance Corporation; and Guaranty dated December 1, 1994 made in favor of DSC Finance Corporation by IXC Communications, Inc. (incorporated by reference to Exhibit 10.2 of the S-4). 10.3* Amended and Restated 1994 Stock Plan of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 10.3 of the June 30, 1997 10-Q). 10.4* Form of Non-Qualified Stock Option Agreement under the 1994 Stock Plan of IXC Communications, Inc. (incorporated by reference to Exhibit 10.4 of the S-4). 10.5 Amended and Restated Development Agreement by and between Intertech Management Group, Inc. and IXC Long Distance, Inc. (incorporated by reference to Exhibit 10.7 of IXC Communications, Inc.'s and the Guarantors' Amendment No. 1 to Form S-4 filed with the Commission on May 20, 1996 (File No. 333-2936) ("Amendment No. 1 to S-4")). 10.6 Second Amended and Restated Service Agreement dated as of January 1, 1996 by and between Switched Services Communications, L.L.C. and Excel Telecommunications, Inc. (incorporated by reference to Exhibit 10.8 of the S-4). 10.7 Equipment Purchase Agreement dated as of January 16, 1996 by and between Siecor Corporation and IXC Carrier, Inc. (incorporated by reference to Exhibit 10.9 of the S-4). 10.8* 1996 Stock Plan of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 10.10 of IXC Communications, Inc. Annual Report on Form 10-K for the year ended December 31, 1996 filed with the Commission on March 28, 1997 (the "10-K")). 10.9 IRU Agreement dated as of November 1995 between WorldCom, Inc. and IXC Carrier, Inc. (incorporated by reference to Exhibit 10.11 of Amendment No. 1 to the S-4). 10.10* Outside Directors' Phantom Stock Plan of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 10.12 of the 10-K). 10.11* Business Consultant and Management Agreement dated as of March 1, 1997 by and between IXC Communications, Inc. and Culp Communications Associates (incorporated by reference to Exhibit 10.13 of IXC Communications, Inc.'s Registration Statement on Form S-4 as filed with the Commission on October 3, 1997 (File No. 333-37157) (the "EPS S-4")). 10.12* Employment Agreement dated December 28, 1995 by and between IXC Communications, Inc. and James F. Guthrie (incorporated by reference to Exhibit 10.14 of the S-1 Amendment). 10.13* Employment Agreement dated August 28, 1995, by and between IXC Communications, Inc. and David J. Thomas (incorporated by reference to Exhibit 10.15 of the S-1 Amendment). 10.14* Special Stock Plan of IXC Communications, Inc. (incorporated by reference to Exhibit 10.16 of the 10-K). 10.15 Lease dated as of June 4, 1997 between IXC Communications, Inc. and Carramerca Realty, L.P. (incorporated by reference to Exhibit 10.17 of the June 30, 1997 10-Q). 10.16 Loan and Security Agreement dated as of July 18, 1997 among IXC Communications, Inc., IXC Carrier, Inc. and NFTC Capital Corporation ("NTFC") (incorporated by reference to Exhibit 10.18 of the June 30, 1997 10-Q). 10.17 IRU and Stock Purchase Agreement dated as of July 22, 1997 between IXC Internet Services, Inc. and PSINet Inc. (incorporated by reference to Exhibit 10.19 of IXC Communications, Inc.'s Amendment No. 1 to Form 10-Q/A for the quarter ended September 30, 1997 filed with the Commission on December 12, 1997 (the "September 30, 1997 10-Q/A")). 10.18 Joint Marketing and Services Agreement dated July 22, 1997 between IXC Internet Services, Inc. and PSINet Inc. (incorporated by reference to Exhibit 10.20 of the September 30, 1997 10-Q/A).
44 47
EXHIBIT NUMBER DESCRIPTION - ------- ----------- 10.19* Employment Agreement dated as of September 9, 1997 between Benjamin L. Scott and IXC Communications, Inc. (incorporated by reference to Exhibit 10.21 of IXC Communication Inc.'s Amendment No. 1 to Registration Statement on S-4 filed with the Commission on December 15, 1997 (File No. 333-37157) ("Amendment No. 1 to the EPS S-4")). 10.20* IXC Communications, Inc. 1997 Special Executive Stock Plan (incorporated by reference to Exhibit 10.22 of Amendment No. 1 to the EPS S-4). 10.21+ First Amendment to Loan and Security Agreement dated as of December 23, 1997 among IXC Communications, Inc., IXC Carrier, Inc., NTFC and Export Development Corporation ("EDC"). 10.22+ Second Amendment to Loan and Security Agreement dated as of January 21, 1998 among IXC Communications, Inc., IXC Carrier, Inc., NTFC and EDC. 21.1+ Subsidiaries of IXC Communications, Inc. 23.1+ Consent of Ernst & Young LLP. 23.2+ Consent of Arthur Andersen LLP. 24.1 Powers of Attorney (included as the signature page of this Form 10-K). 27.1+ Financial Data Schedule. 99.1+ Marca-Tel Combining Financial Statements as of December 31, 1997 and 1996 together with Auditors' Report.
- --------------- * Management contract or executive compensation plan or arrangement required to be indicated as such and filed as an exhibit pursuant to applicable rules of the Commission. + Filed herewith. (b) Reports on Form 8-K: 1. Form 8-K dated September 29, 1997 and filed with the Commission on October 3, 1997 with respect to three press releases reporting on Benjamin L. Scott becoming the President and Chief Executive Officer of the Company, Stuart Coppens becoming the Vice President of Finance and Chief Accounting Officer of the Company and Mike Jones becoming the Vice President of Construction and Facilities Engineering. 2. Form 8-K dated October 3, 1997 and filed with the Commission on October 3, 1997 with respect to a press release reporting on the commencement of the Company's offer (the "Series 3 Tender Offer") to exchange shares of its Common Stock for all outstanding shares of its Series 3 Preferred Stock. 3. Form 8-K dated October 3, 1997 and filed with the Commission on October 7, 1997 with respect to information regarding an employment agreement entered into between the Company and Benjamin L. Scott. 4. Form 8-K dated November 3, 1997 and filed with the Commission on November 4, 1997 with respect to a press release reporting a fiber exchange transaction with FTV Communications, LLC. 5. Form 8-K dated November 4, 1997 and filed with the Commission on November 5, 1997 with respect to a press release announcing the Company's results of operations for the quarter ended September 30, 1997. 6. Form 8-K dated November 6, 1997 and filed with the Commission on November 7, 1997 with respect to a press release reporting the consummation and results of the Series 3 Tender Offer. 7. Form 8-K dated November 7, 1997 and filed with the Commission on November 10, 1997 with respect to a press release reporting the termination of the Company's solicitation of consents in connection with its Senior Notes. 8. Form 8-K dated December 16, 1997 and filed with the Commission on December 17, 1997 with respect to a press release reporting on the commencement of the Company's offer to exchange shares of its 12 1/2% Series B Junior Exchangeable Preferred Stock Due 2009 which have been registered under the Securities Act for each of its outstanding shares of 12 1/2% Junior Exchangeable Preferred Stock Due 2009. 45 48 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) 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. IXC COMMUNICATIONS, INC. By: /s/ JAMES F. GUTHRIE ------------------------------------ James F. Guthrie Executive Vice President and Chief Financial Officer Dated: March 13, 1998 Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE --------- ----- ---- /s/ BENJAMIN L. SCOTT President, Chief Executive March 13, 1998 - ----------------------------------------------------- Officer and Director Benjamin L. Scott (Principal Executive Officer) /s/ RALPH J. SWETT Chairman and Director March 13, 1998 - ----------------------------------------------------- Ralph J. Swett /s/ JAMES F. GUTHRIE Executive Vice President and March 13, 1998 - ----------------------------------------------------- Chief Financial Officer James F. Guthrie (Principal Financial and Accounting Officer) /s/ RICHARD D. IRWIN Director March 13, 1998 - ----------------------------------------------------- Richard D. Irwin /s/ WOLFE H. BRAGIN Director March 13, 1998 - ----------------------------------------------------- Wolfe H. Bragin /s/ CARL W. MCKINZIE Director March 13, 1998 - ----------------------------------------------------- Carl W. McKinzie /s/ PHILLIP L. WILLIAMS Director March 13, 1998 - ----------------------------------------------------- Phillip L. Williams /s/ JOE C. CULP Director March 13, 1998 - ----------------------------------------------------- Joe C. Culp
46 49 GLOSSARY Access charges -- The fees paid by long distance carriers to LECs for originating and terminating long distance calls on their local networks. Ameritech -- Ameritech Communications, Inc. ATM (asynchronous transfer mode) -- An information transfer standard that is one of a general class of technologies that relay traffic by way of an address contained within the first five bytes of a standard 53-byte-long packet or cell. The ATM format can be used by many different information systems, including local area networks, to deliver traffic at varying rates, permitting a mix of voice, video and data (multimedia). AT&T -- AT&T Corp. Backbone -- The through-portions of a transmission network, as opposed to spurs which branch off the through-portions. Bandwidth -- The range of frequencies that can be transmitted through a medium, such as glass fibers, without distortion. The greater the bandwidth, the greater the information-carrying capacity of such medium. Broadband -- Broadband communications systems can transmit large quantities of voice, data and video. Examples of broadband communication systems include DS-3 fiber optic systems, which can transmit 672 simultaneous voice conversations, or a broadcast television station signal, that transmits high resolution audio and video signals into the home. Broadband connectivity is also an essential element for interactive multimedia applications. Cable & Wireless -- Cable & Wireless, P.L.C. Capacity-intensive -- Refers to products which use comparatively large amounts of bandwidth. Carriers -- Companies that provide telecommunications transmission services. CCTS -- Consolidated Communications Telecom Services, Inc. Central Offices -- The switching centers or central switching facilities of the LECs. Dedicated -- Refers to telecommunications lines dedicated or reserved for use by particular customers along predetermined routes. Digital -- A method of storing, processing and transmitting information through the use of distinct electronic or optical pulses that represent the binary digits 0 and 1. Digital transmission and switching technologies (both fiber and microwave) employ a sequence of these pulses to represent information as opposed to the continuously variable analog signal. The precise digital numbers minimize distortion (such as graininess or snow in the case of video transmission, or static or other background distortion in the case of audio transmission). Both the Company's microwave and fiber optic facilities transmit digital information. Digital route miles -- Route miles of the Company's microwave and fiber optic routes. DS-1, DS-3 -- Standard telecommunications industry digital signal formats, which are distinguishable by bit rate (the number of binary digits (0 and 1) transmitted per second). DS-0 service has a bit rate of 64 kilobits per second and can transmit only one voice or data transmission at a time. DS-1 service has a bit rate of 1.544 megabits per second and can transmit 24 simultaneous voice or data transmissions. DS-3 service has a bit rate of 45 megabits per second and can transmit 672 simultaneous voice or data transmissions. DS-3 miles -- A measure of the total capacity and length of a transmission path, calculated as the capacity of the transmission path in DS-3s multiplied by the length of the path in miles. DTI -- Digital Teleport, Inc. EBITDA -- Operating income (loss) plus depreciation and amortization. EBITDA is not a measurement determined in accordance with GAAP, should not be considered in isolation or as a substitute for measures of A-1 50 performance prepared in accordance with GAAP and is not necessarily comparable with similarly titled measures for other companies. 800/888 service -- A telecommunications service for businesses that allows calls to be made to a specific location at no charge to the calling party. Use of the "800" or "888" service code denotes calls that are to be billed to the receiving party. A computer database in the provider's network translates the 800 or 888 number into a conventional telephone number. Enhanced data services -- Products and services designed for the transport and delivery of integrated information to include voice, data and video and any combination thereof. Excel -- EXCEL Communications, Inc. Facilities-based carrier -- Carriers who own transmission facilities. FCC -- Federal Communications Commission. Fiber miles -- The number of fiber route miles of a fiber optic route multiplied by the number of fiber strands in the route. Frame Relay -- A high-speed, data-packet switching service used to transmit data between computers. Frame Relay supports data units of variable lengths at access speeds ranging from 56 kilobits per second to 1.5 megabits per second. This service is well-suited for connecting local area networks, but is not appropriate for voice and video applications due to the variable delays which can occur. Frame Relay was designed to operate at high speeds on modern fiber optic networks. Frontier -- Frontier Corporation. FTV -- FTV Communications, LLC. GAAP -- Generally Accepted Accounting Principles. GST -- GST Net, Inc. GTE -- GTE Corporation. Hubs -- Collection centers located centrally in an area where telecommunications traffic can be aggregated for transport and distribution. Interexchange Carrier -- A company providing inter-LATA or long distance services between LATAs on an intrastate or interstate basis. Inter-LATA -- InterLATA calls are calls that pass from one LATA to another. Typically, these calls are referred to as long distance calls. Intra-LATA -- IntraLATA calls are those local calls that originate and terminate within the same LATA. Intranet -- An infrastructure based on Internet standards and technologies that provides access to information within limited and well-defined groups such as universities, governments and other large organizations. Kilobit -- One thousand bits of information. The information-carrying capacity (i.e., bandwidth) of a circuit may be measured in "kilobits per second." LATAs (local access and transport areas) -- The approximately 200 geographic areas that define the areas between which the RBOCs were prohibited from providing long distance services prior to the Telecommunications Act. LCI -- LCI International Management Services, Inc. LEC (local exchange carrier) -- A company providing local telephone services. Level 3 -- Level 3 Communications, Inc. A-2 51 Local loop -- A circuit within a LATA. Long distance switched services -- Telecommunications services such as residential long distance services that are processed through digital switches and delivered over long-haul circuits and other transmission facilities. MCI -- MCI Communications Corporation. Megabit -- One million bits of information. The information-carrying capacity (i.e., bandwidth) of a circuit may be measured in "megabits per second." MFN -- Metromedia Fiber Network Services, Inc. MFS -- MFS Network Technologies, Inc., a subsidiary of WorldCom. MOUs -- Minutes of use of long distance service. Non-facilities based carrier -- Carriers that do not own transmission facilities. OC-3, OC-12, OC-48 and OC-192 -- Standard telecommunications industry measurements for optical transmission capacity distinguishable by bit rate transmitted per second and the number of voice or data transmissions that can be simultaneously transmitted through fiber optic cable. An OC-3 is generally equivalent to three DS3s and has a bit rate of 155.52 megabits per second and can transmit 2,016 simultaneous voice or data transmissions. An OC-12 has a bit rate of 622.08 megabits per second and can transmit 8,064 simultaneous voice or data transmissions. An OC-48 has a bit rate of 2,488.32 megabits per second and can transmit 32,256 simultaneous voice or data transmissions. An OC-192 is the equivalent of four OC-48s. Off-net -- Refers to circuits on transmission facilities not owned by the Company. On-net -- Refers to circuits on transmission facilities owned by the Company. Optronic -- a combination of optical and electronic equipment. Qwest -- Qwest Communications Corporation. RBOCs (regional Bell operating companies) -- The seven local telephone companies (formerly part of AT&T) established by court decree in 1982. Rockwell International -- Rockwell International Corp. Route miles -- The measure of the length of a transmission path in miles. SONET (synchronous optical network technology) -- An electronics and network architecture for variable-bandwidth products which enables transmission of voice, video and data (multimedia) at very high speeds. Sprint -- Sprint Corp. Switch -- A device that opens or closes circuits or selects the paths or circuits to be used for transmission of information. Switching is a process of interconnecting circuits to form a transmission path between users. Telecom One -- Telecom One, Inc. The Williams Companies -- The Williams Companies, Inc. Vyvx -- Vyvx, Inc., a subsidiary of The Williams Companies, Inc. Westel -- Westel International, Inc. WilTech -- The WilTech Group, a subsidiary of The Williams Companies, Inc. WilTel -- WilTel Network Services, Inc., a subsidiary of The Williams Companies, Inc. WorldCom -- WorldCom, Inc. A-3 52 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS IXC COMMUNICATIONS, INC. AUDITED CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Report of Independent Auditors............................ F-2 Consolidated Balance Sheets as of December 31, 1997 and 1996................................................... F-3 Consolidated Statements of Operations for the years ended December 31, 1997, 1996 and 1995....................... F-4 Consolidated Statements of Changes in Stockholders' Equity (Deficit) for the years ended December 31, 1997, 1996 and 1995............................................... F-5 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995....................... F-6 Notes to Consolidated Financial Statements................ F-7
F-1 53 INDEPENDENT AUDITOR'S REPORT The Board of Directors IXC Communications, Inc. We have audited the accompanying consolidated balance sheets of IXC Communications, Inc. and its subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of operations, changes in stockholders' equity (deficit) and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We did not audit the financial statements of MarcaTel S.A. de C.V. (MarcaTel), a corporation in which the Company has an indirect interest, accounted for using the equity method, as of and for the year ended December 31, 1997. Those statements were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to data included for MarcaTel (see Note 20), is based solely on the report of the other auditors. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits and the report of other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and, for 1997, the report of other auditors, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of IXC Communications, Inc. and its subsidiaries at December 31, 1997 and 1996, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. ERNST & YOUNG LLP Austin, Texas February 28, 1998 F-2 54 IXC COMMUNICATIONS, INC. CONSOLIDATED BALANCE SHEETS
DECEMBER 31, --------------------- 1997 1996 --------- -------- (IN THOUSANDS) ASSETS Cash and cash equivalents................................... $ 152,720 $ 61,340 Accounts receivable: Trade, net of allowance for doubtful accounts of $14,403,000 in 1997 and $4,030,000 in 1996.............. 91,730 45,102 Other..................................................... 1,556 2,466 --------- -------- 93,286 47,568 Deferred tax assets......................................... 1,662 463 Prepaid expenses............................................ 1,838 1,734 --------- -------- Total current assets............................... 249,506 111,105 Property and equipment, net................................. 608,937 268,609 Escrow under Senior Notes................................... -- 51,412 Investment in unconsolidated subsidiaries................... 17,497 5,486 Deferred charges and other non-current assets............... 41,155 22,539 --------- -------- Total assets....................................... $ 917,095 $459,151 ========= ======== LIABILITIES, REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT) Accounts payable -- trade................................... $ 81,679 $ 49,856 Accrued service cost........................................ 44,705 15,067 Accrued liabilities......................................... 43,122 18,928 Current portion of long-term debt and capital lease obligations............................................... 12,171 6,750 --------- -------- Total current liabilities.......................... 181,677 90,601 Long-term debt and capital lease obligations................ 308,124 295,531 Deferred tax liability...................................... 3,206 2,434 Unearned fiber usage revenue................................ 60,957 5,302 Other noncurrent liabilities................................ 6,253 899 Minority interest........................................... 1,465 905 7 1/4% Junior Convertible Preferred Stock; $.01 par value; 3,000,000 shares of all classes of Preferred Stock authorized; 1,055,367 shares issued and outstanding (aggregate liquidation preference of $105,537,000 at December 31, 1997)........................................ 101,239 -- 12 1/2% Junior Exchangeable Preferred Stock; $.01 par value; 3,000,000 shares of all classes of Preferred Stock authorized; 308,958 shares issued and outstanding (aggregate liquidation preference of $313,786,000, including accrued dividends of $4,828,000 at December 31, 1997)..................................................... 302,129 -- Stockholders' equity (deficit): 10% Junior Series 3 Cumulative Preferred Stock; 3,000,000 shares of all classes of Preferred Stock authorized; $.01 par value; shares issued and outstanding 414 in 1997 and 12,550 in 1996 (aggregate liquidation preference of $692,000 at December 31, 1997 and $19,059,000 at December 31, 1996)....................... 1 13 Common Stock, $.01 par value; 100,000,000 shares authorized; shares issued and outstanding 31,559,691 in 1997 and 30,795,014 in 1996............................. 316 308 Additional paid-in capital................................ 106,559 123,434 Accumulated deficit....................................... (154,831) (60,276) --------- -------- Total stockholders' equity (deficit)...................... (47,955) 63,479 --------- -------- Total liabilities, redeemable preferred stock and stockholders' equity (deficit).................... $ 917,095 $459,151 ========= ========
See accompanying notes. F-3 55 IXC COMMUNICATIONS, INC. CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, -------------------------------------- 1997 1996 1995 ----------- ---------- --------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Net operating revenue: (Net of service credit and bad debt provision of $17,387,000, $3,060,000 and $1,505,000 during 1997, 1996, and 1995) Private line............................................. $ 162,398 $ 99,793 $89,563 Long distance switched services.......................... 258,312 103,968 1,438 --------- -------- ------- 420,710 203,761 91,001 Operating expenses: Cost of services......................................... 325,127 143,469 39,852 Operations and administration............................ 80,070 47,067 32,282 Depreciation and amortization............................ 60,748 27,241 17,438 --------- -------- ------- Operating income (loss)............................... (45,235) (14,016) 1,429 Interest income............................................ 7,492 2,838 468 Interest income on escrow under Senior Notes............... 203 7,404 2,552 Interest expense........................................... (31,266) (37,076) (14,597) Equity in net income (loss) of unconsolidated subsidiaries............................................. (23,800) (1,961) 19 --------- -------- ------- Loss before income taxes, minority interest and extraordinary loss....................................... (92,606) (42,811) (10,129) Benefit (provision) for income taxes....................... (1,389) 5,981 1,693 Minority interest.......................................... (560) (618) 5,218 --------- -------- ------- Loss before extraordinary loss............................. (94,555) (37,448) (3,218) Extraordinary loss on early extinguishment of debt, less applicable provision for income taxes of $1,164,000...... -- -- (1,747) --------- -------- ------- Net loss................................................... (94,555) (37,448) (4,965) Dividends applicable to preferred stock.................... 21,636 1,739 1,843 --------- -------- ------- Net loss applicable to common stockholders................. $(116,191) $(39,187) $(6,808) ========= ======== ======= Basic and diluted loss per share: Before extraordinary loss................................ $ (3.75) $ (1.42) $ (.21) Extraordinary loss....................................... -- -- (.07) --------- -------- ------- Net loss................................................. $ (3.75) $ (1.42) $ (.28) ========= ======== =======
See accompanying notes. F-4 56 IXC COMMUNICATIONS, INC. CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
10% JUNIOR 10% SENIOR SERIES 1 SERIES 3 PREFERRED STOCK PREFERRED STOCK COMMON STOCK ------------------- --------------- --------------- NUMBER NUMBER NUMBER ADDITIONAL TOTAL OF OF OF PAID-IN ACCUMULATED STOCKHOLDERS' SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT EQUITY (DEFICIT) --------- ------- ------ ------ ------ ------ ---------- ----------- ---------------- (IN THOUSANDS) Balance at December 31, 1994.................... 1 $1,460 13 $ 13 24,335 $243 $ 29,430 $ (16,957) $ 14,189 Redemption of preferred stock................. (1) (1,460) -- -- -- -- -- -- (1,460) Net loss................ -- -- -- -- -- -- -- (4,965) (4,965) Dividends paid -- preferred stock -- 10% Senior Series 1.............. -- -- -- -- -- -- -- (505) (505) Dividends paid -- preferred stock of consolidated subsidiary............ -- -- -- -- -- -- -- (401) (401) -- ------- --- ---- ------ ---- -------- --------- -------- Balance at December 31, 1995.................... -- -- 13 13 24,335 243 29,430 (22,828) 6,858 Issuance of common stock................. -- -- -- -- 6,460 65 94,004 -- 94,069 Net loss................ -- -- -- -- -- -- -- (37,448) (37,448) -- ------- --- ---- ------ ---- -------- --------- -------- Balance at December 31, 1996.................... -- -- 13 13 30,795 308 123,434 (60,276) 63,479 -- ------- --- ---- ------ ---- -------- --------- -------- Exercise of options..... -- -- -- -- 62 1 683 -- 684 Accretion of Preferred Stock................. -- -- -- -- -- -- (724) (724) Dividends paid in kind and accrued -- Preferred Stock................. -- -- -- -- -- -- (19,323) -- (19,323) Conversion of Series 3 Preferred Stock....... -- -- (12) (12) 605 6 5 -- (1) Issuance of common stock for acquisition....... -- -- -- -- 98 1 2,742 -- 2,743 Other................... -- -- -- -- -- -- (258) -- (258) Net loss................ -- -- -- -- -- -- -- (94,555) (94,555) -- ------- --- ---- ------ ---- -------- --------- -------- Balance at December 31, 1997.................... -- $ -- 1 $ 1 31,560 $316 $106,559 $(154,831) $(47,955) == ======= === ==== ====== ==== ======== ========= ========
See accompanying notes. F-5 57 IXC COMMUNICATIONS, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, ---------------------------------- 1997 1996 1995 --------- -------- --------- (IN THOUSANDS) CASH FLOW FROM OPERATING ACTIVITIES: Net loss.................................................... $ (94,555) $(37,448) $ (4,965) Adjustments to reconcile net loss to cash provided (used in) by operating activities: Depreciation.............................................. 50,334 23,695 16,608 Amortization.............................................. 10,414 3,546 830 Amortization of debt issue costs and Senior Note discount................................................ 1,702 1,086 858 Provision for doubtful accounts........................... 17,387 3,060 1,505 Equity in net (income) loss of unconsolidated subsidiaries............................................ 23,800 1,961 (19) Minority interest in net (income) loss of subsidiaries.... 560 618 (5,218) Compensation expense on stock options and phantom stock... 349 182 -- Extraordinary loss on early extinguishment of debt........ -- -- 2,911 Other, net................................................ (803) -- -- Changes in assets and liabilities, net of effects of acquisitions: Increase in accounts receivable......................... (63,106) (44,309) (4,108) Decrease (increase) in other current assets (104) 490 (1,466) Increase in accounts payable -- trade................... 20,314 17,950 5,196 Increase in accrued liabilities and accrued service costs................................................. 15,903 4,436 7,503 Decrease in deferred income taxes....................... (427) (5,882) (1,847) Decrease in deferred charges and other non-current assets................................................ (30,201) (4,538) (4,092) Increase (decrease) in other noncurrent liabilities..... 62,768 6,466 (2,089) --------- -------- --------- Total adjustments..................................... 108,890 8,761 16,572 --------- -------- --------- Net cash provided by (used in) operating activities....................................... 14,335 (28,687) 11,607 --------- -------- --------- CASH FLOW FROM INVESTING ACTIVITIES: Release of funds from escrow under Senior Notes............. 69,564 154,244 4,300 Deposit into escrow under Senior Notes...................... (18,152) (7,404) (202,552) Purchase of property and equipment.......................... (314,327) (136,391) (23,670) Investment in unconsolidated subsidiaries................... (35,497) (7,319) -- --------- -------- --------- Net cash used in investing activities.............. (298,412) 3,130 (221,922) --------- -------- --------- CASH FLOW FROM FINANCING ACTIVITIES: Net proceeds from issuance of Senior Notes, net of discount.................................................. -- -- 277,148 Payment of debt issue costs................................. -- (1,301) (10,407) Proceeds from long-term debt................................ -- -- 18,695 Payments on long-term debt and capital lease obligations.... (8,288) (12,786) (76,490) Net proceeds from issuance of Convertible Preferred Stock... 95,354 -- -- Net proceeds from issuance of Exchangeable Preferred Stock..................................................... 287,967 -- -- Redemption of preferred stock............................... -- -- (1,460) Redemption of preferred stock of consolidated subsidiary held by minority interests................................ -- -- (1,400) Issuance of common stock.................................... -- 94,069 -- Capital contribution in subsidiary by minority shareholders.............................................. -- -- 6,002 Other financing activities.................................. 424 -- (906) --------- -------- --------- Net cash provided by financing activities.......... 375,457 79,982 211,182 --------- -------- --------- Net increase in cash and cash equivalents................... 91,380 54,425 867 Cash and cash equivalents at beginning of year.............. 61,340 6,915 6,048 --------- -------- --------- Cash and cash equivalents at end of year.................... $ 152,720 $ 61,340 $ 6,915 ========= ======== ========= SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid (received) for: Income taxes............................................ $ 516 $ (832) $ 1,240 ========= ======== ========= Interest expense net of amount capitalized.............. $ 30,174 $ 37,561 $ 4,955 ========= ======== =========
See accompanying notes. F-6 58 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1997 1. ORGANIZATION IXC Communications, Inc. and its subsidiaries (collectively referred to as "IXC" or the "Company") is an Austin, Texas based supplier of telecommunications services. IXC provides two principal services to long distance companies: (i) private line voice and data circuits and (ii) long distance switched services. Long distance companies may be categorized as facilities-based carriers or non-facilities-based carriers. Sellers of private line services are generally facilities-based carriers, like IXC, that own private line transmission facilities, such as fiber optic or digital microwave transmission facilities. Customers using private line services include: (i) facilities-based carriers that require private line capacity where they have geographic gaps in their facilities, need additional capacity or require geographically different routing; and (ii) non-facilities-based carriers requiring private line capacity to carry their customers' long distance traffic. The Company provides private line services to customers either on a "take-or-pay" long term basis, or after contract expiration on a month-to-month basis. In late 1995, the Company expanded into the business of selling long distance switched services to long distance resellers. Sellers of switched long distance services are generally switched carriers, like IXC, that own one or more switches that direct telecommunications traffic or switchless carriers that depend on switched carriers to provide long distance services to their users. The Company sells switched long distance services on a per-call basis, with payment due monthly after services are rendered. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation IXC, a Delaware corporation, was incorporated in 1992 and, through a series of transactions through 1994, acquired various wholly-owned and majority-owned subsidiaries which are included in the consolidated financial statements. The consolidated financial statements of IXC include the accounts of IXC Communications, Inc. and its wholly-owned and majority-owned subsidiaries. The Company has a 50% interest in Progress International L.L.C. ("Progress"), a 40% interest in a European Joint Venture, and a 20% interest in Unidial Communications Services, L.L.C. ("Unidial"), all of which are accounted for using the equity method. Progress has a 49% interest in Marca-Tel S.A. de C.V. ("Marca-Tel"), a telecommunications company located in Mexico. Significant intercompany accounts and transactions have been eliminated in the consolidated financial statements. Any difference between the amount at which the investment is being carried and the amount of the underlying equity in the net assets of the equity investee is being amortized over its expected life. Revenues Private line voice and data circuit revenues are generated primarily by providing capacity on the Company's fiber optic and microwave transmission network at rates established under long-term contractual arrangements or on a month-to-month basis after contract expiration. Revenue is recognized as services are provided. Switched long-distance service revenues are generated primarily by providing voice and data communication services. Revenue is recognized as services are provided. The Company accounts for capacity exchange agreements with other carriers by recognizing the fair value of the revenue earned and expense incurred under the respective agreements. Exchange agreements accounted for noncash revenue and expense (in equal amounts) of $14.0 million in 1997, $14.0 million in 1996, and $13.8 million in 1995. F-7 59 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 Cash and Cash Equivalents Cash and cash equivalents include cash on hand, money market funds and all investments with an initial maturity of three months or less. All cash equivalents are recorded at cost and classified as available for sale. Short-term investments held in the Company's escrow related to the Senior Notes (see Note 4) were not included as a cash equivalent. Property and Equipment Property and equipment is recorded at cost. Depreciation is provided using the straight-line method over the estimated useful lives of the various assets, ranging from three to twenty years. Maintenance and repairs are charged to operations as incurred. Property and equipment recorded under capital leases is included with the Company's owned assets. Amortization of assets recorded under capital leases is included in depreciation expense. Costs associated with uncompleted portions of the fiber optic network are classified as construction in progress in the accompanying consolidated balance sheets. Upon completion, the costs will be classified as transmission systems and depreciated over their useful lives. In accordance with FASB Statement No. 121, the Company reviews its long-lived assets by comparing the undiscounted cash flows estimated to be generated by those assets with the related carrying amount of the assets. Upon an indication of an impairment, a loss is recorded if the discounted cash flows projected for the assets is less than the assets' carrying value. Fiber Exchange Agreements In connection with its fiber optic network expansion, the Company has entered into various agreements to purchase, sell or exchange fiber usage rights. Purchases of fiber usage rights from other carriers are recorded at cost as a separate component of property and equipment. The recorded assets are amortized over the lesser of the term of the related agreement or the estimated life of the fiber optic cable. Sales of fiber usage rights are recorded as unearned revenue. Revenue is recognized over the terms of the related agreements. Non-monetary exchanges of fiber usage rights (swaps of fiber usage rights with other long distance carriers) are recorded at the cost of the asset transferred or, if applicable, the fair value of the asset received. Capitalization of Interest Interest is capitalized as part of the cost of constructing the Company's fiber optic network and for amounts invested in companies or joint ventures accounted for using the equity method during pre-operating periods. Interest capitalized during construction periods are computed by determining the average accumulated expenditures for each interim capitalization period and applying the interest rate related to the specific borrowings associated with each construction project. Total interest incurred during the years ended December 31, 1997, 1996 and 1995 was $38.6 million, $40.0 million, and $15.0 million, respectively, of which, $7.3 million, $2.9 million, and $0.4 million was capitalized. Income Taxes The Company accounts for income taxes using the liability method as required by Statement of Financial Accounting Standards ("SFAS") No. 109, Accounting for Income Taxes. Deferred income taxes are provided for net operating losses and for temporary differences between the basis of assets and liabilities for financial reporting and income tax reporting. Investment tax credits are accounted for by the flow-through method. F-8 60 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 Deferred Charges and Other Non-current Assets Costs incurred in connection with obtaining long-term financing have been deferred and are being amortized as interest expense over the terms of the related debt agreements. Deferred costs relating to long-term financing at December 31, 1997 and 1996 were $28.1 million and $11.4 million, respectively. Accumulated amortization of these costs at December 31, 1997 and 1996 were $3.3 million and $1.4 million, respectively. Certain costs incurred in connection with installation of the switched long distance network have been deferred and are being amortized on a straight-line basis over two years. Deferred network costs at December 31, 1997 and 1996 were $7.6 million and $5.0 million, with accumulated amortization of $3.4 million and $1.0 million, respectively. The acquisition cost of customer accounts obtained through an outside sales organization have been deferred and amortized over two years. Acquisition costs of customer accounts at December 31, 1997 and 1996 were $15.2 million and $2.3 million with accumulated amortization of $5.3 million and $0.7 million. Stock-Based Compensation The Company has elected to account for its employee stock options under Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25") and related interpretations, because, the alternative fair value accounting provided for under SFAS No. 123, "Accounting for Stock-Based Compensation," requires use of option valuation models that were not developed for use in valuing employee stock options (Note 9). Under APB 25 compensation expense is recognized when the exercise price of the Company's employee stock options is less than the market price of the underlying stock on the date of grant. Basic and Diluted Loss Per Share In 1997, the Financial Accounting Standards Board issued Statement No. 128, Earnings per Share. Statement 128 replaced the calculation of primary and fully diluted earnings per share with basic and diluted earnings per share. Unlike primary earnings per share, basic earnings per share excludes any dilutive effects of options, warrants and convertible securities. Diluted earnings per share is very similar to the previously reported fully diluted earnings per share. All earnings per share amounts for all periods have been presented, and where appropriate, restated to conform to the Statement 128 requirements. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Concentration of Credit Risk Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash equivalents, funds held in escrow and trade receivables. The Company places its cash equivalents and funds held in escrow in quality investments with reputable financial institutions. Trade receivables include significant balances due from a small number of customers. At December 31, 1997, $23.7 million in trade receivables from the Company's private line services are due from ten customers. Switched long distance services receivables are also concentrated, with $40.5 million in trade receivables due from six customers, including $22.6 million from Excel Communications, Inc. ("Excel"). If any of these F-9 61 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 individually significant customers are unable to meet their financial obligations, results of operations of the Company could be adversely affected. The Company performs ongoing credit evaluations of its customers' financial condition. IXC has not experienced significant losses from sales to any of its significant customers (See Note 11). Reclassifications Certain amounts for prior years have been reclassified to conform to the 1997 presentation. 3. PROPERTY AND EQUIPMENT The following table details the Company's property and equipment:
DECEMBER 31, --------------------- 1997 1996 --------- -------- (IN THOUSANDS) Land and right of ways................................ $ 4,151 $ 2,345 Buildings and improvements............................ 21,451 5,048 Transmission systems.................................. 440,738 181,170 Furniture and other................................... 6,776 4,629 Fiber usage rights.................................... 34,991 38,533 Construction in progress.............................. 216,481 106,017 --------- -------- 724,588 337,742 Less: Accumulated depreciation and amortization....... (115,651) (69,133) --------- -------- Property and equipment, net........................... $ 608,937 $268,609 ========= ========
4. ESCROW UNDER SENIOR NOTES Under the terms of the Company's Senior Notes, issued in October 1995, the Company was required to place $200 million of Senior Notes proceeds in an escrow account, under which the proceeds and the earnings thereon were restricted in their use to network expansion, capital expenditures, certain interest, principal and other payments on the Senior Notes and other permitted uses (see Note 6). Such funds were invested in short-term, investment-grade, interest-bearing securities as follows:
DECEMBER 31, ------------------ 1997 1996 ------- ------- (IN THOUSANDS) Overnight investments.................................... $ -- $14,201 U.S. Government securities............................... -- 37,211 ------- ------- $ -- $51,412 ======= =======
The escrow account was subject to a security interest under the Company's Senior Notes. The investments in the escrow account at December 31, 1996 were all due in three months or less and classified as available for sale. F-10 62 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 5. ACCRUED LIABILITIES The following table details the Company's accrued liabilities:
DECEMBER 31, ------------------ 1997 1996 ------- ------- (IN THOUSANDS) Accrued taxes............................................ $ 4,814 $ 2,750 Deferred revenue......................................... 4,510 3,044 Accrued interest......................................... 8,906 8,906 Deposits................................................. 12,873 -- Other.................................................... 12,019 4,228 ------- ------- $43,122 $18,928 ======= =======
6. LONG-TERM DEBT Long-term debt and capital lease obligations of IXC consisted of the following:
DECEMBER 31, -------------------- 1997 1996 -------- -------- (IN THOUSANDS) Senior Notes -- 12.5%, net of unamortized discount of $6,862,000 and $7,344,000 at December 31, 1997 and 1996, respectively................................... $278,138 $277,656 Capital lease obligations.............................. 36,217 17,862 Other debt............................................. 5,940 6,763 -------- -------- Total long-term debt and capital lease obligations................................ 320,295 302,281 Less current portion................................... (12,171) (6,750) -------- -------- Long-term debt and capital lease obligations........... $308,124 $295,531 ======== ========
Senior Notes On October 5, 1995, the Company issued $285 million of 12 1/2% Senior Notes (effective rate 12.8%) due October 1, 2005, with interest payable semi-annually. The Senior Notes may be redeemed at the option of the Company, in whole or in part, on or after October 1, 2000 at a premium declining to zero in 2004. At any time prior to October 1, 1998, the Company may redeem Senior Notes with an aggregate principal amount of up to $100 million at a redemption price of 112.5% of the principal amount from the net proceeds of a sale of capital stock of the Company, provided that at least $100 million in aggregate principal amount of Senior Notes remains outstanding immediately after the occurrence of such redemption and that the redemption occurs within 35 days of the date of the closing of the offering of such equity securities. Also, the Senior Notes contain provisions that, in the event of a Change in Control (which meets the definition set forth in the Indenture) of the Company, provide their holders the right to require the Company to repurchase all or any part of the Senior Notes at a price equal to 101% of the principal amount thereof, plus accrued and unpaid interest. Of the net proceeds of approximately $277 million, $200 million was deposited into an escrow account primarily restricted for the construction of a major network expansion program (see Note 4). Approximately $53.7 million of the net proceeds was used to repay or repurchase certain previously-existing indebtedness of the Company, including $22.7 million paid to certain stockholders. This resulted in an extraordinary loss on F-11 63 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 early extinguishment of debt of $1.7 million in 1995, net of applicable income tax benefit of $1.2 million. In addition, approximately $3.8 million was used to redeem certain preferred stock. As of December 31, 1997, the Senior Notes are senior unsecured obligations of the Company and are guaranteed on a senior unsecured basis by certain wholly owned direct and indirect subsidiaries of IXC. The obligations of each guarantor are limited to the minimum extent necessary to prevent the guarantee from violating or becoming voidable under applicable law relating to fraudulent conveyance or fraudulent transfer or similar laws affecting the rights of creditors generally. See Note 24 for financial information for guarantor and non-guarantor subsidiaries. The Senior Notes contain certain covenants that restrict the ability of the Company and its subsidiaries to incur additional indebtedness and issue certain preferred stock, pay dividends or make other distributions, repurchase equity interests or subordinated indebtedness, engage in sale and leaseback transactions, create certain liens, enter into certain transactions with affiliates, sell assets of the Company or its subsidiaries, issue or sell equity interests of the Company's subsidiaries or enter into certain mergers and consolidations. In 1997, the Company entered into a secured equipment financing facility with NTFC Capital Corporation under which the Company has available financing of up to $28 million (as of December 31, 1997 approximately $18 million of which had been borrowed). Annual maturities of long-term debt at December 31, 1997 are as follows (in thousands): 1998...................................................... $ 3,765 1999...................................................... 2,175 2005...................................................... 285,000 -------- 290,940 Less discount on Senior Notes............................. (6,862) -------- $284,078 ========
7. CAPITAL AND OPERATING LEASES The Company leases certain facilities, equipment and transmission capacity used in its operations under noncancellable capital and operating leases. Future minimum annual lease payments under these lease agreements at December 31, 1997, are as follows (in thousands):
CAPITAL OPERATING LEASES LEASES ------- --------- 1998............................................ $10,696 $35,585 1999............................................ 10,725 8,679 2000............................................ 9,328 6,257 2001............................................ 6,793 4,855 2002............................................ 4,766 4,593 ------- 42,308 Less amounts related to interest................ (6,091) ------- Present value of capital lease obligations...... 36,217 Less current portion............................ (8,195) ------- Long-term capital lease obligations............. $28,022 =======
F-12 64 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 The gross amount of assets recorded under capital leases at December 31, 1997 and 1996 was $38.1 million and $22.2 million, respectively. The related accumulated amortization was $17.1 million and $5.9 million at December 31, 1997 and 1996, respectively. Lease expense relating to facilities, equipment and transmission capacity leases, excluding amortization of fiber exchange agreements, was approximately $98.0 million, $49.9 million and $29.1 million for the years ended December 31, 1997, 1996 and 1995, respectively. 8. REDEEMABLE PREFERRED STOCK In April 1997, the Company issued $100 million (1,000,000 shares) of 7 1/4% Junior Convertible Preferred Stock Due 2007 ("Convertible Preferred Stock"). The net proceeds of approximately $95.4 million from the offering were used to fund capital expenditures, investments in the Company's unconsolidated subsidiaries and general corporate purposes. The Convertible Preferred Stock and the common stock issuable upon conversion thereof were registered under the Securities Act of 1933, as amended (the "Securities Act") in August 1997 in compliance with the registration rights agreement entered into by the Company with the initial purchasers of the Convertible Preferred Stock. The Convertible Preferred Stock is convertible at the option of the holder into shares of common stock at a conversion rate of 4.263 shares of common stock for each share of Convertible Preferred Stock. On March 31, 2007, the Convertible Preferred Stock must be redeemed by the Company at a price equal to the liquidation preference ($100 per share) plus accrued and unpaid dividends; thus it is "mandatorily redeemable" and is not included in stockholders' equity. Dividends payable prior to or on June 30, 1999 are, at the option of the Company, payable in cash or through the issuance of additional shares of Convertible Preferred Stock equal to the dividend amount divided by the liquidation preference of such additional shares. After March 31, 1999, to the extent and for so long as the Company is not permitted to pay cash dividends on the Convertible Preferred Stock by the terms of any then outstanding indebtedness or any other agreement or instrument to which the Company is subject, the Company will be required to pay dividends, which shall accrue at the rate per annum of 8 3/4%, through the issuance of additional shares of Convertible Preferred Stock. Payment of cash dividends on the Convertible Preferred Stock is not currently permitted under the indenture for the Company's 12 1/2% Senior Notes due 2005 until certain financial conditions have been met. During 1997, the Company issued approximately 55,367 additional shares of Convertible Preferred Stock in satisfaction of its 1997 dividend requirements. Any difference between the carrying value and the redemption amount of the Convertible Preferred Stock is accreted to additional paid-in-capital for all periods through the mandatory redemption date. In August 1997, the Company issued $300 million (300,000 shares) of 12 1/2% Junior Exchangeable Preferred Stock Due 2009 (the "Exchangeable Preferred Stock"). The net proceeds of approximately $288.0 million from the offering are being used to fund capital expenditures, investments in the Company's unconsolidated subsidiaries and general corporate purposes. The Exchangeable Preferred Stock was registered under the Securities Act of 1933, as amended (the "Securities Act") in December 1997 in compliance with the registration rights agreement entered into by the Company with the initial purchasers of the Exchangeable Preferred Stock. The Company may exchange all of the shares of Exchangeable Preferred Stock for 12 1/2% Subordinated Exchange Debentures Due 2009 ("Exchange Debentures") in a principle amount equal to the liquidation preference of the Exchangeable Preferred Stock at the time of the exchange. If exchanged, the Exchange Debentures will bear interest at the rate of 12 1/2% per annum, payable semiannually on February 15 and August 15, commencing with the first of such dates to occur after the date of such exchange. The Exchange Debentures will be general unsecured obligations of the Company, subordinated in right of payment to all existing and future senior indebtedness of the Company and to all indebtedness and other liabilities of the Company's subsidiaries. On August 15, 2009, the Exchangeable Preferred Stock must be redeemed by the Company at a price equal to the liquidation preference ($1,000 a share) plus accrued and unpaid dividends; thus it is "mandatorily redeemable" and is not included in stockholders' equity. Dividends on the Exchangea- F-13 65 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 ble Preferred Stock will accrue at a rate of 12 1/2% per annum of the liquidation preference thereof (including unpaid dividends) and will be payable quarterly in arrears on February 15, May 15, August 15, and November 15 of each year commencing November 15, 1997. Dividends payable prior to or on August 15, 2000 are, at the option of the Company, payable in cash or through issuance of additional shares of Exchangeable Preferred Stock equal to the dividend amount divided by the liquidation preference of such additional shares. After February 15, 2001, interest on the Exchangeable Preferred Stock may be paid only in cash. Payment of cash dividends on the Exchangeable Preferred Stock is not currently permitted under the indenture for the Company's 12 1/2% Senior Notes due 2005 until certain financial conditions have been met. During 1997, the Company issued approximately 8,958 additional shares of Exchangeable Preferred Stock in satisfaction of its 1997 dividend requirements. Any difference between the carrying value and the redemption amount of the Exchangeable Preferred Stock is accreted by a charge to additional paid-in-capital for all periods through the mandatory redemption date. 9. COMMON AND PREFERRED STOCK Preferred Stock The 10% Junior Series 3 Cumulative Redeemable Preferred Stock ("Series 3 Preferred Stock") votes as a single class with IXC's common stock except in matters impacting the rights of the Series 3, is entitled to elect one director and may be redeemed at the Company's option in whole or in part at any time, subject to certain debt covenants, at a price of $1,000 per share, plus accumulated and unpaid dividends and accrued interest. The Series 3 Preferred Stock is nonparticipatory and has no mandatory redemption requirements. Dividends are payable at the determination of the Board of Directors, subject to debt covenants. Interest accrues on unpaid dividends at an annual rate of 10%. On October 31, 1997, the Company consummated its offer to exchange shares of its Common Stock for its Series 3 Preferred Stock. Holders of approximately 96.7% of its Series 3 Preferred Stock accepted such offer. Each holder that tendered shares of Series 3 Preferred Stock received approximately 49.85 shares of Common Stock for each share of Series 3 Preferred Stock tendered prior to the expiration date. The conversion rate was calculated by dividing the aggregate per share liquidation preference of, and the accrued and unpaid dividend on, one share of Series 3 Preferred Stock as of October 31, 1997 by $33.00 (the last reported sales price of the Company's Common Stock on the Nasdaq National Market on October 31, 1997). The aggregate liquidation preference and accrued and unpaid dividends on the Series 3 Preferred Stock at October 31, 1997, was approximately $20.6 million ($1,645 per share for the 12,550 shares outstanding). Cumulative preferred dividends in arrears, including interest, at December 31, 1997 and 1996 were $277,614 ($670.64 per share) and $6.5 million ($518.65 per share), respectively. IXC's 10% Senior Series 1 Cumulative Redeemable Preferred Stock was non-voting and was redeemed on October 6, 1995 from the proceeds of the Senior Notes for $2.0 million, including cumulative dividends in arrears and related interest of $505,000. During 1993, an indirect subsidiary of IXC issued 1,400 shares of 10% Senior Series 1 Cumulative Redeemable Preferred Stock (the "ILHI Series 1 Preferred Stock") at $1,000 per share to stockholders of IXC. The ILHI Series 1 Preferred Stock was redeemed on October 6, 1995 from the proceeds of the Senior Notes for $1.8 million, including cumulative dividends in arrears and related interest of $401,000. See also Note 8 for Redeemable Preferred Stock. Common Stock During 1996, the Company issued 6,440,000 shares of Common Stock in an initial public offering and a private placement, resulting in net proceeds of $94.1 million. At December 31, 1997, the Company has reserved approximately 8,319,000 shares for future issuance under stock option plans and the Convertible Preferred Stock. F-14 66 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 Stock Option and Award Plans In November 1994, the Company adopted the IXC Communications, Inc. Stock Plan, as amended (the "1994 Stock Plan"), which provides for the issuance of restricted stock or the granting of stock options for up to 1,212,450 shares of common stock to key employees and others. Awards under the 1994 Stock Plan are given at the discretion of the Board of Directors and include common stock options with exercise prices at least equal to the fair market value at the date of grant. Options granted may be either "incentive stock options," within the meaning of Section 422(a) of the Internal Revenue Code, or non-qualified options. The options expire after 10 years and generally vest at rates of 25% and 33% per year commencing one year after the date of grant, with the exception of two grants covering 84,871 shares which were 100% vested upon grant. In 1996, the Company adopted the IXC Communications, Inc. 1996 Stock Plan, as amended (the "1996 Stock Plan"), which provides for the issuance of restricted stock or the granting of stock options for up to 2,121,787 shares of common stock to key employees and others. Awards under the 1996 Stock Plan are granted at the discretion of the Board of Directors and include common stock options with exercise prices at least equal to the fair market value at the date of grant. Options granted may be either "incentive stock options," within the meaning of Section 422(a) of the Internal Revenue Code, or non-qualified options. The options expire after 10 years and generally vest at rates of 25% and 33% per year commencing one year after the date of grant. During 1997 and 1996, 744,900 and 476,600 options were granted, respectively, under the 1996 Stock Plan. The Company has not issued any restricted stock under the 1994 Stock Plan or the 1996 Stock Plan. All options granted under the 1994 Stock Plan and the 1996 Stock Plan were granted at estimated market value at the date of grant. In the event of a change of control of the Company, the options outstanding immediately following the consummation of such change of control fully vest, and the options may be exercised in full to purchase the total number of shares covered by the option. In October 1996, the Company adopted a stock incentive plan (the "Special Stock Plan") covering 67,900 shares of common stock. Any employee, director or other person providing services to the Company is eligible to receive awards under the Special Stock Plan, at the Board's discretion. Awards available under the Special Stock Plan include common stock purchase options and restricted common stock. All available options to acquire stock under the Special Stock Plan were granted in 1996 at exercise prices less than market value at the date of grant and vest over three to four years. In 1997 and 1996, the Company recognized $247,000 and $182,000 in compensation expense respectively, related to grants under the Special Stock Plan. On May 14, 1996 the Company adopted the IXC Communications, Inc. Outside Directors' Phantom Stock Plan (the "Directors' Plan"), pursuant to which $20,000 per year of outside director's fees for certain directors is deferred and treated as if it were invested in shares of the Company's common stock. No shares of common stock will be actually purchased and the participants will receive cash benefits equal to the value of the shares that they are deemed to have purchased under the Directors' Plan, with such value to be determined on the date of distribution. Distribution of benefits generally will occur three years after the deferral. Compensation expense is determined based on the market price of the shares deemed to have been purchased and is charged to expense over the related period. In 1997 and 1996, the Company recognized $102,000 and $60,000 as compensation expense related to the Directors' Plan. In September 1997, the Company adopted the 1997 Special Executive Stock Plan, a stock incentive plan covering 500,000 shares of common stock. The purposes of the new plan were to promote the interests of the Company and its stockholders by enabling it to offer grants of stock to better attract, retain and reward key executives and, to strengthen the mutuality of interests between an executive and the Company's stockholders by providing an executive with a proprietary interest in pursuing the Company's long-term growth and financial success. The terms and conditions of the 1997 Special Executive Stock Plan were essentially the same as those of the 1994 and 1996 Plans. All available options to acquire stock under the 1997 Special F-15 67 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 Executive Stock Plan were granted in 1997 at market value at the date of grant. The options granted will vest over a five year period. Stock Based Compensation The Company has elected to account for its employee stock options under APB 25. As a result, pro forma information regarding net loss and loss per share is required by SFAS No. 123, which requires that the information be determined as if the Company had accounted for its employee stock options granted subsequent to December 31, 1994 under the fair value method of that Statement. The fair value for these options was estimated at the date of grant using the Black-Scholes option pricing model with the following weighted-average assumptions for 1997, 1996 and 1995, respectively: risk-free interest rates ranging from 5.17% to 6.22%, 5.25% to 6.73% and 5.74% to 5.95%; no dividend yield; volatility factor of the expected market price of the Company's common stock of .551 in 1997 and .523 for 1996 and 1995; and a weighted-average expected life of the options of approximately 5 years. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options' vesting period. The Company's pro forma information follows (in thousands except for loss per share information):
1997 1996 1995 --------- -------- ------- Pro forma loss applicable to common stockholders... $(120,151) $(39,805) $(6,871) Pro forma basic and diluted loss per share......... $ (3.88) $ (1.45) $ (0.28)
Because SFAS No. 123 is applicable only to options granted subsequent to December 31, 1994, its pro forma effect will not be fully reflected until 1998. A summary of the Company's stock option activity, and related information for the years ended December 31 follows:
1997 1996 1995 ----------------------- ----------------------- -------------------- WEIGHTED- WEIGHTED- WEIGHTED- AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE ---------- --------- ---------- --------- ------- --------- Outstanding -- beginning of year................. 1,700,573 $ 9.05 645,880 $ 3.01 206,113 $3.01 Granted................... 1,244,900 25.06 1,138,351 12.04 439,767 3.01 Exercised................. (62,226) 10.98 (19,702) 3.01 -- -- Forfeited................. (31,001) 17.89 (63,956) 3.01 -- -- ---------- ------ ---------- ------ ------- ----- Outstanding -- end of year.................... 2,852,246 $15.90 1,700,573 $ 9.05 645,880 $3.01 ========== ====== ========== ====== ======= ===== Exercisable at end of year.................... 687,041 257,527 121,243 ========== ========== ======= Weighted-average fair value of options granted during the year......... $ 14.55 $ 7.34 $ 1.51
F-16 68 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 The following table summarizes outstanding options at December 31, 1997 by price range:
OUTSTANDING EXERCISABLE - --------------------------------------------------------------- ---------------------- WEIGHTED- WEIGHTED-AVERAGE WEIGHTED- NUMBER AVERAGE REMAINING NUMBER AVERAGE OF RANGE OF EXERCISE CONTRACTUAL OF EXERCISE OPTIONS EXERCISE PRICE PRICE LIFE OF OPTIONS OPTIONS PRICE - --------- --------------- --------- ---------------- ------- --------- 1,036,095 $ 3.01 $ 3.01 7.8 536,604 $3.01 1,045,651 15.38 to 26.25 19.69 9.0 150,437 19.87 770,500 27.50 to 36.88 28.10 9.7 -- -- - --------- --------------- ------ ------- ----- 2,852,246 $3.01 to $36.88 $15.90 8.8 687,041 $6.70 ========= =============== ====== ======= =====
10. LOSS PER SHARE Loss per share data for the years ended December 31, 1997, 1996 and 1995 are as follows:
INCOME SHARES PER-SHARE (NUMERATOR) (DENOMINATOR) AMOUNT ----------- ------------- --------- (IN THOUSANDS, EXCEPT PER-SHARE DATA) For the Year Ended 1997: Net loss............................... $ 94,555 Less: Preferred stock dividends........ 21,636 ======== Basic and diluted loss per share....... $116,191 30,961 $(3.75) ======== ====== ======
Options to purchase 2,852,246 shares of common stock and 1,055,367 shares of Convertible Preferred Stock (each share convertible into 4.263 shares of common stock) were outstanding at December 31, 1997, but were not included in the computation of diluted loss per share because they would have been anti-dilutive due to the Company's net loss.
INCOME SHARES PER-SHARE (NUMERATOR) (DENOMINATOR) AMOUNT ----------- ------------- --------- (IN THOUSANDS, EXCEPT PER-SHARE DATA) For the Year Ended 1996: Net loss............................... $(37,448) Less: Preferred stock dividends........ (1,739) ======== Basic and diluted loss per share....... $(39,187) 27,525 $(1.42) ======== ====== ======
Options to purchase 1,700,573 shares of common stock were outstanding at December 31, 1996, but were not included in the computation of diluted loss per share because they would have been anti-dilutive due to the Company's net loss. F-17 69 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997
INCOME SHARES PER-SHARE (NUMERATOR) (DENOMINATOR) AMOUNT ----------- ------------- --------- (IN THOUSANDS, EXCEPT PER-SHARE DATA) For the Year Ended 1995: Net loss............................... $(4,965) Less: Preferred stock dividends........ (1,843) ------- Basic and diluted loss per share....... $(6,808) 24,335 $(0.28) ======= ====== ======
Options to purchase 645,880 shares of common stock were outstanding at December 31, 1995, but were not included in the computation of diluted loss per share because they would have been anti-dilutive due to the Company's net loss. 11. MAJOR CUSTOMERS Prior to 1996, substantially all of the Company's revenues were earned from private line services. Private line services generally are provided to carriers under long-term contractual arrangements or on a month-to-month basis after contract expiration. In late 1995, the Company expanded into the business of selling long distance switched services to long distance resellers. Excel Communications is the Company's largest long distance switched service customer. Only sales to Excel exceeded 10% of total revenues for each of the years ended December 31, 1997 and 1996. The percentages of revenue for customers with 10% or more of the Companys' business in any one year are as follows:
1997 1996 1995 ---- ---- ---- Excel Communications, Inc........................... 29% 35% -- Frontier Communications............................. 4% 10% 21% WorldCom, Inc. ..................................... 4% 8% 20%
12. EMPLOYEE BENEFIT PLANS The Company has a defined contribution retirement and 401(k) savings plan which covers all full-time employees with one year of service. The Company contributes 6% of eligible compensation, as defined in the plan, and matches 50% of the employee's contributions up to a maximum of 6% of the employee's compensation. Employees vest in the Company's contribution over five years. Benefit expense for the years ended December 31, 1997, 1996 and 1995 was approximately $1,263,000, $779,000 and $522,000, respectively. F-18 70 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 13. INCOME TAXES Deferred income taxes reflect the tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax assets and liabilities are as follows:
DECEMBER 31, ------------------- 1997 1996 -------- -------- (IN THOUSANDS) Deferred tax assets: Tax credit carryforwards............................... $ 2,068 $ 2,068 Net operating loss carryforwards....................... 37,363 22,240 Investment in joint venture............................ 9,465 794 Deferred revenue....................................... 19,787 -- Bad debts.............................................. 5,761 1,612 Accrued expenses....................................... 3,273 750 -------- -------- Gross deferred tax assets...................... 77,717 27,464 Valuation allowance............................ (54,793) (17,264) -------- -------- Net deferred tax assets.................................. 22,924 10,200 -------- -------- Deferred tax liabilities: Tax over book depreciation............................. (23,635) (10,372) Other liability accruals............................... (833) (1,799) -------- -------- Gross deferred tax liabilities................. (24,468) (12,171) -------- -------- Net deferred tax liability............................... $ (1,544) $ (1,971) ======== ======== As recorded in the consolidated balance sheets: Current deferred tax assets............................ $ 1,662 $ 463 Non current deferred tax liability..................... (3,206) (2,434) -------- -------- $ (1,544) $ (1,971) ======== ========
At December 31, 1997, the Company had net operating loss carryforwards of approximately $93.4 million for income tax purposes that expire through 2012. The Company has minimum tax and investment tax credit carryforwards at December 31, 1997 of approximately $0.7 million and $1.4 million, respectively. The minimum tax credits can be carried forward indefinitely and the investment tax credits expire in 2001. Valuation allowances of $54.8 million and $17.3 million were established to offset a portion of the Company's deferred tax assets at December 31, 1997 and 1996, respectively. The valuation allowance is related to deferred tax assets, primarily net operating losses, that may not be realizable. During the years ended December 31, 1997 and 1996, the valuation allowance was increased by $37.5 million and $17.3 million, respectively. F-19 71 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 Significant components of the benefit (provision) for income taxes (excluding the effect attributable to extraordinary items) are as follows:
DECEMBER 31, ----------------------------- 1997 1996 1995 -------- ------- ------ (IN THOUSANDS) Current: Federal............................................. $ -- $ 829 $ 381 State............................................... (1,816) (250) -- -------- ------- ------ Total current......................................... (1,816) 579 381 Deferred: Federal............................................. 363 4,136 1,144 State............................................... 64 1,266 168 -------- ------- ------ Total deferred........................................ 427 5,402 1,312 -------- ------- ------ Benefit (provision) for income taxes.................. $ (1,389) $ 5,981 $1,693 ======== ======= ======
The reconciliation of income tax benefit (provision) attributable to continuing operations computed at the U.S. federal statutory tax rates to income tax benefit (provision) is as follows:
DECEMBER 31, ------------------------------ 1997 1996 1995 -------- -------- ------ (IN THOUSANDS) Tax benefit at federal statutory rates............... $ 32,608 $ 14,766 $1,670 State income tax benefit (provision) net of federal effect............................................. 3,690 3,106 302 Net operating losses and other deferred tax assets not benefited...................................... (37,529) (17,264) -- Resolution of tax examinations....................... -- 3,511 -- Permanent and other differences...................... (158) 1,862 (279) -------- -------- ------ Benefit (provision) for income taxes................. $ (1,389) $ 5,981 $1,693 ======== ======== ======
14. RELATED PARTY TRANSACTIONS A law firm, of which a director and stockholder of the Company was a principal, provided certain legal services to the Company and charged fees and costs incurred to the Company in the amount of approximately $4.3 million in 1997, $3.5 million in 1996 and $2.6 million in 1995. F-20 72 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 15. FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used by the Company in estimating its fair value disclosures for financial instruments: Cash and cash equivalents: The carrying amount reported in the balance sheets for cash and cash equivalents approximates fair value. Accounts receivable and accounts payable: The carrying amounts reported in the balance sheets for accounts receivable and accounts payable approximate fair value. Escrow under Senior Notes: The carrying amount reported in the balance sheets for restricted short-term investments held in escrow approximates fair value. Long-term debt: The fair value of the Senior Notes is estimated at $330 million based on the last trading price of the Senior Notes in 1997. Redeemable preferred stock: The fair value of the Convertible and Exchangeable Preferred Stock has not been determined due to the impracticability of such a calculation based on the limited market of the preferred stock and the lack of an actively quoted price. 16. COMMITMENTS AND CONTINGENCIES In connection with its fiber optic network expansion, the Company has entered into various construction and installation agreements with contractors. Total commitments under these agreements are approximately $77.6 million at December 31, 1997. In connection with its fiber expansion agreements, the Company has committed to pay $42.0 million for fiber usage rights on other long distance carriers' networks, $8.4 million of which was paid by December 31, 1997. Pursuant to the same agreements, the Company has committed to pay a total of $30.4 million, in periodic installments for twenty to twenty-five years related to maintenance and license fees. Several of these agreements require the Company to share network construction costs with the other party. The exact amounts of these construction costs are not specified in the related agreements and are thus excluded from the figures above. The Company is from time to time involved in various legal proceedings, all of which have arisen in the ordinary course of business and some of which are covered by insurance. In the opinion of the Company's management, none of the claims relating to such proceedings will have a material adverse effect on the financial condition or results of operations of the Company. 17. VALUATION AND QUALIFYING ACCOUNTS Activity in the Company's allowance for doubtful accounts and service credits was as follows (in thousands):
BALANCE AT OTHER BALANCE BEGINNING CHARGED TO CHARGES TO AT END OF FOR THE YEARS ENDED OF PERIOD REVENUE REVENUE DEDUCTIONS PERIOD ------------------- ---------- ---------- ---------- ---------- --------- December 31, 1997............ $4,030 $17,387 $4,936 $11,950 $14,403 December 31, 1996............ $1,769 $ 3,060 $ -- $ 799 $ 4,030 December 31, 1995............ $ 762 $ 1,505 $ -- $ 498 $ 1,769
F-21 73 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 18. QUARTERLY RESULTS (UNAUDITED) The Company's unaudited quarterly results are as follows:
FOR THE 1997 QUARTER ENDED: --------------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 -------- -------- ------------ ----------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Net operating revenues.............. $ 83,910 $ 88,865 $112,240 $135,695 Gross profit........................ 14,928 14,715 28,351 37,589 Net loss............................ (19,878) (28,810) (26,788) (19,079) Basic and diluted loss per share.... $ (0.66) $ (1.01) $ (1.08) $ (0.99)
FOR THE 1996 QUARTER ENDED: --------------------------------------------------- MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31 -------- -------- ------------ ----------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Net operating revenues.............. $ 26,250 $ 43,007 $ 61,016 $ 73,488 Gross profit........................ 10,650 11,364 17,242 21,036 Net loss............................ (11,699) (12,067) (5,624) (8,058) Basic and diluted loss per share.... $ (0.50) $ (0.51) $ (0.20) $ (0.28)
The 1996 and first three quarters of 1997 earnings per share amounts have been restated immaterially to comply with Statement of Financial Accounting Standards No. 128, Earnings per Share and the Securities and Exchange Commission Staff Accounting Bulletin 98. 19. SEGMENT REPORTING In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131, Disclosures about Segments of an Enterprise and Related Information (Statement 131), which is effective for years beginning after December 15, 1997. Statement 131 establishes standards for the way that public business enterprises report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. Statement 131 is effective for financial statements for fiscal years beginning after December 15, 1997, and therefore the Company will adopt the new requirements retroactively in 1998. Management has not completed its review of Statement 131, but anticipates that the adoption of Statement 131 will not affect results of operations or financial position, but may affect the disclosure of segment information. Under applicable accounting literature effective prior to the adoption of FAS 131, the Company considers its operations to be exclusively within a single industry. 20. INVESTMENT IN UNCONSOLIDATED SUBSIDIARY As of December 31, 1997, the Company indirectly owned 24.5% of Marca-Tel S.A. de C.V. (Marca-Tel) through its ownership of 50% of Progress International LLC, which owned 49% of Marca-Tel. The remaining 51% of Marca-Tel is owned by a Mexican individual and Formento Radio Beep, S.A. de C.V. The other 50% of Progress International is owned by Westel International, Inc. F-22 74 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 The following are summarized financial information for Marca-Tel for the years ending December 31, 1997 and 1996:
1997 1996 -------- --------- (IN THOUSANDS) INCOME STATEMENT DATA: Net revenue............................................. $ 5,786 $ -- Gross profit (loss)..................................... (4,556) (3,110) Net loss................................................ (25,395) (3,120) BALANCE SHEET DATA: Current assets.......................................... $ 10,123 $ 4,381 Non-current assets...................................... 80,351 34,733 Current liabilities..................................... 18,431 26,665 Non-current liabilities................................. 51,831 2,871
Marca-Tel is included in the financial statements of the Company as of and for the years ended December 31, 1997 and 1996 as follows:
1997 1996 ------ ----- (IN MILLIONS) Investment in unconsolidated subsidiaries................... $ 11.6 $ 5.3 Equity in net income (loss) of unconsolidated subsidiaries.............................................. $(23.6) $(1.8)
21. JOINT VENTURES AND ACQUISITIONS In October 1997, the Company formed a joint venture with Telenor AS, the Norwegian national telephone company, to provide telecommunication services to carriers and resellers in nine European countries. The joint venture is owned 40 percent by the Company, 40 percent by Telenor Global Services AS, and 20 percent by Clarion Resources Communications Corporation, a U.S.-based telecommunications company in which Telenor owns a controlling interest. Under the terms of the agreement, the Company has two seats on the joint venture's board. Approximately $5.8 million was invested in this joint venture in 1997. In December 1997, the Company entered into an agreement to exchange approximately 4,000,000 shares of its common stock for all of the outstanding common stock of Network Long Distance, Inc, a switchless reseller to small/medium size companies. The Company intends to structure the transaction to qualify for pooling of interests accounting and to qualify as a tax-free reorganization. Under the terms of the agreement, Network Long Distance shareholders will receive 0.2998 IXC common shares for each Network Long Distance share at the close of the transaction. The transaction is expected to close in the second quarter of 1998, subject to Network Long Distance shareholder and regulatory approvals and other normal closing conditions. In December 1997, the Company announced a joint venture with UniDial Communications to sell UniDial products exclusively over the Company's network. The joint venture will be known as UniDial Communications Services, LLC, and will offer UniDial's full suite of wireless, voicemail, and paging products over the Company's network backbone. The Company will provide the joint venture with its full range of voice, video, Internet, and data services to be private labeled under the UniDial name. The products will be marketed through a full-time national sales force of UniDial network consultants. No amounts were invested in this joint venture in 1997. F-23 75 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 22. SUBSEQUENT EVENTS PSINet Transaction. To enhance the Company's product and service offerings, in February 1998, the Company consummated the agreements with PSINet which allow each party to market and sell the products and services of the other party. Under the terms of the agreements, the Company will provide PSINet with an IRU in 10,000 miles of OC-48 transmission capacity on its Network over a 20-year period in exchange for approximately 10.2 million shares representing 20% (post-issuance) of PSINet common stock. If the value of the PSINet common stock received by the Company is less than $240 million at the earlier of one year after the final delivery of the transmission capacity (scheduled for late-1999) or four years after the transaction's closing, PSINet, at its option, will pay the Company cash and/or deliver additional PSINet common stock to increase the value of the cash and common stock paid by PSINet to $240.0 million. Upon delivery of the transmission capacity to PSINet, the Company will begin to receive a maintenance fee which, as the full capacity has been delivered, should increase to approximately $11.5 million per year. 23. FINANCIAL INFORMATION FOR SUBSIDIARY GUARANTORS AND NON-GUARANTOR SUBSIDIARIES IXC conducts a significant portion of its business through subsidiaries. The Senior Notes are unconditionally guaranteed, jointly and severally, by certain wholly-owned direct and indirect subsidiaries (the "Subsidiary Guarantors"). The obligations of each Guarantor are limited to the minimum extent necessary to prevent the guarantee from violating or becoming voidable under applicable law relating to fraudulent conveyance or fraudulent transfer or similar laws affecting the rights of creditors generally. Certain IXC subsidiaries do not guarantee the Senior Notes (the "Non-Guarantor Subsidiaries"). The claims of creditors of Non-Guarantor Subsidiaries have priority over the rights of IXC to receive dividends or distributions from such subsidiaries. Presented below is condensed consolidating financial information for IXC, the Subsidiary Guarantors and the Non-Guarantor Subsidiaries at December 31, 1997 and 1996 and for the years ended December 31, 1997, 1996 and 1995. The equity method has been used by IXC with respect to investments in subsidiaries. The equity method has been used by Subsidiary Guarantors with respect to investments in Non-Guarantor Subsidiaries. Separate financial statements for Subsidiary Guarantors are not presented based on management's determination that they do not provide additional information that is material to investors. Eliminations represents intercompany transactions, receivables, payables and investments among the companies comprising the consolidated Company's financial statements. These amounts must be eliminated in order to report the Company on a consolidated basis. F-24 76 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 The following table sets forth the Guarantor and Non-Guarantor subsidiaries:
GUARANTOR SUBSIDIARIES NON-GUARANTOR SUBSIDIARIES ---------------------- -------------------------- Broadband Services, Inc. Mutual Signal Holding Corp. IXC Carrier, Inc. Mutual Signal Corporation Atlantic States Microwave Mutual Signal Corporation of Transmission Company Michigan Central States Microwave MSM Associates, Limited Partnership Transmission Company Switched Services Communications, L.L.C. Rio Grande Transmission, Inc. Telecom Engineering, Inc. Tower Communications System Corp. West Texas Microwave Company Western States Microwave Company IXC Long Distance, Inc. Link Net International, Inc. IXC International , Inc. IXC Internet Services, Inc.
F-25 77 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING BALANCE SHEET
DECEMBER 31, 1997 -------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED --------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) Current assets: Cash and cash equivalents...... $ 122,572 $ 27,249 $ 2,899 $ -- $ 152,720 Accounts receivable and other, net......................... 507 71,497 21,282 -- 93,286 Other current assets........... 1,310 1,546 644 -- 3,500 --------- --------- -------- --------- --------- Total current assets... 124,389 100,292 24,825 -- 249,506 Property and equipment, net...... 8,246 543,506 57,445 (260) 608,937 Investments in and due from affiliate...................... 512,535 255,797 -- (750,835) 17,497 Other assets..................... 17,330 10,638 16,621 (3,434) 41,155 --------- --------- -------- --------- --------- Total assets........... $ 662,500 $ 910,233 $ 98,891 $(754,529) $ 917,095 ========= ========= ======== ========= ========= Current liabilities: Accounts payable and other current liabilities......... $ 27,777 $ 97,191 $ 44,538 $ -- $ 169,506 Current portion of long-term debt and lease obligations................. 118 4,276 7,777 -- 12,171 --------- --------- -------- --------- --------- Total current liabilities.......... 27,895 101,467 52,315 -- 181,677 Long-term debt and capital lease obligations.................... 278,427 18,156 11,541 -- 308,124 Deferred tax liability........... -- 10,583 -- (7,377) 3,206 Due to affiliate/parent.......... -- 882,885 83,259 (966,144) -- Other noncurrent liabilities..... -- 67,210 -- 67,210 Minority interest................ -- -- -- 1,465 1,465 Convertible Preferred Stock...... 101,239 101,239 Exchangeable Preferred Stock..... 302,129 -- 302,129 Stockholders' equity: Preferred stock................ 1 -- 2,585 (2,585) 1 Common stock................... 316 3 -- (3) 316 Additional paid-in capital..... 106,559 42,553 23,848 (66,401) 106,559 Accumulated deficit............ (154,066) (212,624) (74,657) 286,516 (154,831) --------- --------- -------- --------- --------- Total stockholders' equity....... (47,190) (170,068) (48,224) 217,527 (47,955) --------- --------- -------- --------- --------- Total liabilities and stockholders equity............... $ 662,500 $ 910,233 $ 98,891 $(754,529) $ 917,095 ========= ========= ======== ========= =========
F-26 78 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
DECEMBER 31, 1997 -------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED --------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) Net operating revenues............... $ 43 $ 325,096 $ 247,693 $(152,122) $ 420,710 Operating expenses: Cost of services................... 7 229,402 246,540 (150,822) 325,127 Operations and administration...... 6 57,638 23,726 (1,300) 80,070 Depreciation and amortization...... 4,341 45,401 11,102 (96) 60,748 --------- --------- --------- --------- --------- (4,311) (7,345) (33,675) 96 (45,235) Interest income...................... 6,418 942 335 -- 7,695 Intercompany interest income (expense).......................... 85,376 (75,306) (10,070) -- -- Interest expense..................... (36,126) 7,112 (2,252) -- (31,266) Equity in net loss of unconsolidated subsidiaries....................... (146,471) (67,751) -- 190,422 (23,800) --------- --------- --------- --------- --------- Loss before income taxes and minority interest........................... (95,114) (142,348) (45,662) 190,518 (92,606) Benefit (provision) for income taxes.............................. 559 (4,217) 2,269 -- (1,389) Minority interest.................... -- -- -- (560) (560) --------- --------- --------- --------- --------- Net loss............................. $ (94,555) $(146,565) $ (43,393) $ 189,958 $ (94,555) ========= ========= ========= ========= =========
F-27 79 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
DECEMBER 31, 1997 -------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED --------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES............... $ (14,347) $ (71,592) $(16,600) $116,874 $ 14,335 CASH FLOWS FROM INVESTING ACTIVITIES: Release of funds from escrow under Senior Notes....................... 69,564 -- -- -- 69,564 Deposit into escrow under Senior Notes.............................. (18,152) -- -- -- (18,152) Purchase of property and equipment... (8,238) (239,495) (20,098) (46,496) (314,327) Investment in unconsolidated subsidiaries....................... 85,373 (35,497) -- (85,373) (35,497) --------- --------- -------- -------- --------- Net cash provided by (used in) investing activities............... 128,547 (274,992) (20,098) (131,869) (298,412) --------- --------- -------- -------- --------- CASH FLOW FROM FINANCING ACTIVITIES: Payments on long-term debt and capital lease obligations.......... 289 (43,952) (9,104) 44,479 (8,288) Net proceeds from Convertible Preferred Stock.................... 95,354 -- -- -- 95,354 Net proceeds from Exchangeable Preferred Stock ................... 287,967 -- -- -- 287,967 Other Financing, net................. (172) -- -- 596 424 Advances to affiliates............... (440,429) 427,240 44,090 (30,901) -- --------- --------- -------- -------- --------- Net cash provided by (used in) financing activities............... (56,991) 383,288 34,986 14,174 375,457 --------- --------- -------- -------- --------- Net increase (decrease) in cash and cash equivalents................... 57,209 36,704 (1,712) (821) 91,380 Cash and cash equivalents at beginning of period................ 65,363 (9,455) 4,611 821 61,340 --------- --------- -------- -------- --------- Cash and cash equivalents at end of period............................. $ 122,572 $ 27,249 $ 2,899 $ -- $ 152,720 ========= ========= ======== ======== =========
F-28 80 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING BALANCE SHEET
DECEMBER 31, 1996 ------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED -------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) Current assets: Cash and cash equivalents........... $ 65,363 $ (9,455) $ 4,611 $ 821 $ 61,340 Accounts receivable and other, net.............................. 111 28,657 32,363 (13,563) 47,568 Other current assets................ 937 3,765 549 (3,054) 2,197 -------- -------- -------- --------- -------- Total current assets........ 66,411 22,967 37,523 (15,796) 111,105 Property and equipment, net........... 8 231,514 37,347 (260) 268,609 Escrow under Senior Notes............. 51,412 -- -- -- 51,412 Due from affiliate.................... 225,093 40,742 6,574 (272,409) -- Other assets.......................... 8,429 6,527 13,049 20 28,025 -------- -------- -------- --------- -------- Total assets................ $351,353 $301,750 $ 94,493 $(288,445) $459,151 -------- -------- -------- --------- -------- Current liabilities: Accounts payable and other current liabilities...................... $ 10,077 $ 70,207 $ 16,909 $ (13,342) $ 83,851 Due to affiliate.................... 141 523 40 (704) -- Current portion of long-term debt and lease obligations............ -- 2,469 6,024 (1,743) 6,750 -------- -------- -------- --------- -------- Total current liabilities... 10,218 73,199 22,973 (15,789) 90,601 Long-term debt and capital lease obligations......................... 277,656 1,487 21,548 (5,160) 295,531 Deferred tax liability................ -- 7,484 -- (5,050) 2,434 Due to affiliate/parent............... -- 231,666 40,743 (272,409) -- Other noncurrent liabilities.......... -- 6,201 749 (749) 6,201 Minority interest..................... -- -- -- 905 905 Stockholders' equity: Preferred stock..................... 13 -- 2,585 (2,585) 13 Common stock........................ 308 4 2 (6) 308 Additional paid-in capital.......... 123,434 30,053 36,249 (66,302) 123,434 Accumulated deficit................. (60,276) (48,344) (30,356) 78,700 (60,276) -------- -------- -------- --------- -------- Total stockholders' equity.................... 63,479 (18,287) 8,480 9,807 63,479 -------- -------- -------- --------- -------- Total liabilities and stockholders' equity...... $351,353 $301,750 $ 94,493 $(288,445) $459,151 ======== ======== ======== ========= ========
F-29 81 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
DECEMBER 31, 1996 ------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED -------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) Net operating revenues................ $ 66 $148,692 $104,156 $(49,153) $203,761 Operating expenses: Cost of services.................... -- 86,929 103,912 (47,372) 143,469 Operations and administration....... 3,955 36,711 7,558 (1,157) 47,067 Depreciation and amortization....... 58 18,055 9,453 (325) 27,241 -------- -------- -------- -------- -------- (3,947) 6,997 (16,767) (299) (14,016) Interest income....................... 17,572 6,738 596 (22,068) 2,838 Interest income on escrow under Senior Notes............................... 7,404 -- -- -- 7,404 Interest expense...................... (38,181) (15,936) (5,027) 22,068 (37,076) Equity in net income (loss) of unconsolidated subsidiaries......... (26,277) (23,688) -- 48,004 (1,961) -------- -------- -------- -------- -------- Loss before income taxes and minority interest............................ (43,429) (25,889) (21,198) 47,705 (42,811) Benefit (provision) for income taxes............................... 5,981 2,915 2,344 (5,259) 5,981 Minority interest..................... -- -- -- (618) (618) -------- -------- -------- -------- -------- Net loss.............................. $(37,448) $(22,974) $(18,854) $ 41,828 $(37,448) ======== ======== ======== ======== ========
F-30 82 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
DECEMBER 31, 1996 --------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED --------- ---------- -------------- ------------ ------------ (DOLLARS IN THOUSANDS) NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES.............. $ (25,099) $ 49,161 $(40,627) $(12,122) $ (28,687) CASH FLOWS FROM INVESTING ACTIVITIES: Release of funds from escrow under Senior Notes...................... 154,244 -- -- -- 154,244 Deposit into escrow under Senior Notes............................. (7,404) -- -- -- (7,404) Purchase of property and equipment......................... (9) (169,498) (7,259) 40,375 (136,391) Investment in unconsolidated subsidiaries...................... 12,422 (44,714) -- 24,973 (7,319) --------- --------- -------- -------- --------- Net cash provided by (used in) investing activities.............. 159,253 (214,212) (7,259) 65,348 3,130 CASH FLOW FROM FINANCING ACTIVITIES: Payment of debt issue costs......... (1,301) -- -- -- (1,301) Payments on long-term debt and capital lease obligations......... -- (9,018) (583) (3,185) (12,786) Issuance of preferred stock......... -- -- 2,585 (2,585) -- Issuance of common stock............ 81,581 -- 15,500 (3,012) 94,069 Advances to affiliates.............. (150,489) 161,282 33,253 (44,046) -- --------- --------- -------- -------- --------- Net cash provided by (used in) financing activities.............. (70,209) 152,264 50,755 (52,828) 79,982 --------- --------- -------- -------- --------- Net increase (decrease) in cash and cash equivalents.................. 63,945 (12,787) 2,869 398 54,425 Cash and cash equivalents at beginning of period............... 1,418 3,332 1,742 423 6,915 --------- --------- -------- -------- --------- Cash and cash equivalents at end of period............................ $ 65,363 $ (9,455) $ 4,611 $ 821 $ 61,340 ========= ========= ======== ======== =========
F-31 83 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING BALANCE SHEET
DECEMBER 31, 1995 ------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED -------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) Current assets: Cash and cash equivalents..................... $ 1,418 $ 3,332 $ 1,742 $ 423 $ 6,915 Accounts receivable and other, net............ -- 6,717 1,148 (1,546) 6,319 Other current assets.......................... 6,565 4,481 358 (8,589) 2,815 -------- -------- ------- --------- -------- Total current assets............................ 7,983 14,530 3,248 (9,712) 16,049 Property and equipment, net..................... -- 76,804 29,910 (315) 106,399 Escrow under Senior Notes....................... 198,266 -- -- -- 198,266 Due from affiliate.............................. 74,604 3,351 568 (78,523) -- Other assets.................................... 12,707 16,948 4,191 (18,085) 15,761 -------- -------- ------- --------- -------- Total assets.................................... $293,560 $111,633 $37,917 $(106,635) $336,475 ======== ======== ======= ========= ======== Current liabilities: Accounts payable and other current liabilities................................ $ 8,984 $ 13,922 $ 2,720 $ (4,528) $ 21,098 Due to affiliate.............................. 258 6,458 1,832 (8,548) -- Current portion of long-term debt and lease obligations................................ -- 1,511 3,023 -- 4,534 -------- -------- ------- --------- -------- Total current liabilities....................... 9,242 21,891 7,575 (13,076) 25,632 Long-term debt and capital lease obligations.... 277,238 3,207 17,215 (3,400) 294,260 Deferred tax liability.......................... 222 10,997 -- (2,916) 8,303 Due to affiliate/parent......................... -- 70,384 3,878 (74,262) -- Other noncurrent liabilities.................... -- 469 -- -- 469 Minority interest............................... -- 1 -- 952 953 Stockholders' equity: Preferred stock............................... 13 -- -- -- 13 Common stock.................................. 243 3 1 (4)(b) 243 Additional paid-in capital.................... 29,430 30,051 20,750 (50,801) 29,430 Accumulated deficit........................... (22,828) (25,370) (11,502) 36,872 (22,828) -------- -------- ------- --------- -------- Total stockholders' equity............ 6,858 4,684 9,249 (13,933) 6,858 -------- -------- ------- --------- -------- Total liabilities and stockholders' equity.............................. $293,560 $111,633 $37,917 $(106,635) $336,475 ======== ======== ======= ========= ========
F-32 84 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
DECEMBER 31, 1995 ------------------------------------------------------------------ SUBSIDIARY NON-GUARANTOR IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED ------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) Net operating revenues............................ $ 404 $89,339 $ 12,155 $(10,897) $ 91,001 Operating expenses: Cost of services................................ -- 38,950 10,075 (9,173) 39,852 Operations and administration................... 1,116 26,155 6,322 (1,311) 32,282 Depreciation and amortization................... 57 12,728 4,653 -- 17,438 ------- ------- -------- -------- -------- (769) 11,506 (8,895) (413) 1,429 Interest income................................... 3,766 399 67 (3,764) 468 Interest income on escrow under Senior Notes...... 2,552 -- -- -- 2,552 Interest expense.................................. (10,982) (5,838) (1,541) 3,764 (14,597) Equity in net income (loss) of unconsolidated subsidiaries.................................... (1,474) (7,678) -- 9,171 19 ------- ------- -------- -------- -------- Loss before income taxes, minority interests and extraordinary loss.............................. (6,907) (1,611) (10,369) 8,758 (10,129) Benefit (provision) for income taxes.............. 2,246 546 (1,099) -- 1,693 Minority interests................................ -- -- -- 5,218 5,218 ------- ------- -------- -------- -------- Loss before extraordinary items................... (4,661) (1,065) (11,468) 13,976 (3,218) Extraordinary loss, net of taxes.................. (304) (1,309) (134) -- (1,747) ------- ------- -------- -------- -------- Net loss.......................................... $(4,965) $(2,374) $(11,602) $ 13,976 $ (4,965) ======= ======= ======== ======== ========
F-33 85 IXC COMMUNICATIONS, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) DECEMBER 31, 1997 CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS
DECEMBER 31, 1995 -------------------------------------------------------------------- SUBSIDIARY NON-GUARANTOR IXC IXC GUARANTORS SUBSIDIARIES ELIMINATIONS CONSOLIDATED --------- ---------- ------------- ------------ ------------ (DOLLARS IN THOUSANDS) NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES................................... $ (8,324) $ 24,272 $(8,333) $ 3,992 $ 11,607 CASH FLOWS FROM INVESTING ACTIVITIES: Release of funds from escrow under Senior Notes........................................ 4,300 -- -- -- 4,300 Purchase of restricted short-term investments.................................. (202,552) -- -- -- (202,552) Purchase of property and equipment............. -- (14,282) (9,565) 177 (23,670) --------- -------- ------- -------- --------- Net cash used in investing activities.......... (198,252) (14,282) (9,565) 177 (221,922) CASH FLOW FROM FINANCING ACTIVITIES: Net proceeds from issuance of Senior Notes, net of discount.................................. 277,148 -- -- -- 277,148 Payment of debt issue costs.................... (10,407) -- -- -- (10,407) Payments from (advances to) affiliates, net.... (50,827) 50,827 -- -- -- Proceeds from long-term debt................... -- 17,150 1,545 -- 18,695 Payments on long-term debt and capital lease obligations.................................. (5,700) (63,606) (3,089) (4,095) (76,490) Redemption of preferred stock.................. (1,460) (1,400) -- -- (2,860) Capital contribution in subsidiary by minority shareholders................................. -- (14,248) 20,250 -- 6,002 Dividend payments.............................. (906) -- -- -- (906) --------- -------- ------- -------- --------- Net cash provided by (used in) financing activities................................... 207,848 (11,277) 18,706 (4,095) 211,182 --------- -------- ------- -------- --------- Net increase (decrease) in cash and cash equivalents.................................. 1,272 (1,287) 808 74 867 Cash and cash equivalents at beginning of year......................................... 146 4,619 934 349 6,048 --------- -------- ------- -------- --------- Cash and cash equivalents at end of year....... $ 1,418 $ 3,332 $ 1,742 $ 423 $ 6,915 ========= ======== ======= ======== =========
F-34 86 EXHIBIT INDEX
SEQUENTIALLY EXHIBIT NUMBERED NUMBER DESCRIPTION PAGE - ------- ----------- ------------ 2.1 Stock Acquisition Agreement and Plan of Merger by and among IXC Communications, Inc., IXC Long Distance, Inc., Pisces Acquisition Corp. and Network Long Distance, Inc. dated as of December 19, 1997 (incorporated by reference to Exhibit 2.1 of IXC Communications, Inc.'s Current Report on Form 8-K dated December 19, 1997 and filed with the Commission on December 23, 1997).......................................... 3.1+ Restated Certificate of Incorporation of IXC Communications, Inc., as amended............................................ 3.2 Bylaws of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 3.2 of IXC Communications, Inc.'s Quarterly Report on Form 10-Q for the quarter ended September 30, 1997 filed with the Commission on November 14, 1997 (the "September 30, 1997 10-Q"))....................... 4.1 Indenture dated as of October 5, 1995 by and among IXC Communications, Inc., on its behalf and as successor-in-interest to I-Link Holdings, Inc. and IXC Carrier Group, Inc., each of IXC Carrier, Inc., on its behalf and as successor-in-interest to I-Link, Inc., CTI Investments, Inc., Texas Microwave Inc. and WTM Microwave Inc., Atlantic States Microwave Transmission Company, Central States Microwave Transmission Company, Telcom Engineering, Inc., on its behalf and as successor-in-interest to SWTT Company and Microwave Network, Inc., Tower Communication Systems Corp., West Texas Microwave Company, Western States Microwave Transmission Company, Rio Grande Transmission, Inc., IXC Long Distance, Inc., Link Net International, Inc. (collectively, the "Guarantors"), and IBJ Schroder Bank & Trust Company, as Trustee (the "Trustee), with respect to the 12 1/2% Series A and Series B Senior Notes due 2005 (incorporated by reference to Exhibit 4.1 of IXC Communications, Inc.'s and each of the Guarantor's Registration Statement on Form S-4 filed with the Commission on April 1, 1996 (File No. 333-2936) (the "S-4"))...................................... 4.2 Form of 12 1/2% Series A Senior Notes due 2005 (incorporated by reference to Exhibit 4.6 of the S-4)..................... 4.3 Form of 12 1/2% Series B Senior Notes due 2005 and Subsidiary Guarantee (incorporated by reference to Exhibit 4.8 of Amendment No. 1 to IXC Communications, Inc.'s Registration Statement on Form S-1 filed with the Commission on June 13, 1996 (File No. 333-4061) (the "S-1 Amendment"))................................................ 4.4 Amendment No. 1 to Indenture and Subsidiary Guarantee dated as of June 4, 1996 by and among IXC Communications, Inc., the Guarantors and the Trustee (incorporated by reference to Exhibit 4.11 of the S-1 Amendment).......................... 4.5 Purchase Agreement dated as of March 25, 1997 by and among IXC Communications, Inc., Credit Suisse First Boston Corporation ("CS First Boston") and Dillon Read & Co. Inc. ("Dillon Read") (incorporated by reference to Exhibit 4.12 of IXC Communications, Inc.'s Quarterly Report on Form 10-Q for the quarter ended March 31, 1997 filed with the Commission on May 15, 1997 (the "March 31, 1997 10-Q"))..... 4.6 Registration Rights Agreement dated as of March 25, 1997 by and among IXC Communications, Inc., CS First Boston and Dillon Read (incorporated by reference to Exhibit 4.13 of the March 31, 1997 10-Q).................................... 4.7 Amendment to Registration Rights Agreement dated as of March 25, 1997 by and between IXC Communications, Inc. and GEPT (incorporated by reference to Exhibit 4.14 of the March 31, 1997 10-Q)..................................................
87
SEQUENTIALLY EXHIBIT NUMBERED NUMBER DESCRIPTION PAGE - ------- ----------- ------------ 4.8 Registration Rights Agreement dated as of July 8, 1997 among IXC Communications, Inc. and each of William G. Rodi, Gordon Hutchins, Jr. and William F. Linsmeier (incorporated by reference to Exhibit 4.15 of IXC Communications, Inc.'s Quarterly Report on Form 10-Q for the quarter ended June 30, 1997, as filed with the Commission on August 6, 1997 (the "June 30, 1997 10-Q"))...................................... 4.9 Registration Rights Agreement dated as of July 8, 1997 among IXC Communications, Inc. and each of William G. Rodi, Gordon Hutchins, Jr. and William F. Linsmeier (incorporated by reference to Exhibit 4.16 of the June 30, 1997 10-Q)........ 4.10 Purchase Agreement dated as of August 14, 1997 by and among IXC Communications, Inc. and the initial purchasers named in Schedule A thereto (incorporated by reference to Exhibit 4.1 of IXC Communications, Inc.'s Current Report on Form 8-K dated August 20, 1997 and filed with the Commission on August 28, 1997 (the "8-K"))................................ 4.11 Indenture dated as of August 15, 1997 between IXC Communications, Inc. and The Bank of New York (incorporated by reference to Exhibit 4.2 of the 8-K)..................... 4.12 Registration Rights Agreement dated as of August 14, 1997 by and among IXC Communications, Inc. and the purchasers named therein (incorporated by reference to Exhibit 4.3 of the 8-K)........................................................ 4.13+ First Supplemental Indenture dated as of October 23, 1997 among IXC Communications, Inc., the Guarantors, IXC International, Inc. and IBJ Schroder Bank of Trust Company..................................................... 4.14+ Second Supplemental Indenture dated as of December 22, 1997 among IXC Communications, Inc., the Guarantors, IXC Internet Services, Inc., IXC International, Inc. and IBJ Schroder Bank & Trust Company........................................ 4.15+ Third Supplemental Indenture dated as of January 6, 1998 among IXC Communications, Inc., the Guarantors, IXC Internet Services, Inc., IXC International, Inc. and IBJ Schroder Bank & Trust Company........................................ 10.1 Office Lease dated June 21, 1989 with USAA Real Estate Company, as amended (incorporated by reference to Exhibit 10.1 of the S-4)............................................ 10.2 Equipment Lease dated as of December 1, 1994 by and between DSC Finance Corporation and Switched Services Communications, L.L.C.; Assignment Agreement dated as of December 1, 1994 by and between Switched Services Communications, L.L.C. and DSC Finance Corporation; and Guaranty dated December 1, 1994 made in favor of DSC Finance Corporation by IXC Communications, Inc. (incorporated by reference to Exhibit 10.2 of the S-4)....................... 10.3* Amended and Restated 1994 Stock Plan of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 10.3 of the June 30, 1997 10-Q).................................. 10.4* Form of Non-Qualified Stock Option Agreement under the 1994 Stock Plan of IXC Communications, Inc. (incorporated by reference to Exhibit 10.4 of the S-4)....................... 10.5 Amended and Restated Development Agreement by and between Intertech Management Group, Inc. and IXC Long Distance, Inc. (incorporated by reference to Exhibit 10.7 of IXC Communications, Inc.'s and the Guarantors' Amendment No. 1 to Form S-4 filed with the Commission on May 20, 1996 (File No. 333-2936) ("Amendment No. 1 to S-4"))................... 10.6 Second Amended and Restated Service Agreement dated as of January 1, 1996 by and between Switched Services Communications, L.L.C. and Excel Telecommunications, Inc. (incorporated by reference to Exhibit 10.8 of the S-4)......
88
SEQUENTIALLY EXHIBIT NUMBERED NUMBER DESCRIPTION PAGE - ------- ----------- ------------ 10.7 Equipment Purchase Agreement dated as of January 16, 1996 by and between Siecor Corporation and IXC Carrier, Inc. (incorporated by reference to Exhibit 10.9 of the S-4)...... 10.8* 1996 Stock Plan of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 10.10 of IXC Communications, Inc. Annual Report on Form 10-K for the year ended December 31, 1996 filed with the Commission on March 28, 1997 (the "10-K"))...................................... 10.9 IRU Agreement dated as of November 1995 between WorldCom, Inc. and IXC Carrier, Inc. (incorporated by reference to Exhibit 10.11 of Amendment No. 1 to the S-4)................ 10.10* Outside Directors' Phantom Stock Plan of IXC Communications, Inc., as amended (incorporated by reference to Exhibit 10.12 of the 10-K)................................................ 10.11* Business Consultant and Management Agreement dated as of March 1, 1997 by and between IXC Communications, Inc. and Culp Communications Associates (incorporated by reference to Exhibit 10.13 of IXC Communications, Inc.'s Registration Statement on Form S-4 as filed with the Commission on October 3, 1997 (File No. 333-37157) (the "EPS S-4"))....... 10.12* Employment Agreement dated December 28, 1995 by and between IXC Communications, Inc. and James F. Guthrie (incorporated by reference to Exhibit 10.14 of the S-1 Amendment)......... 10.13* Employment Agreement dated August 28, 1995, by and between IXC Communications, Inc. and David J. Thomas (incorporated by reference to Exhibit 10.15 of the S-1 Amendment)......... 10.14* Special Stock Plan of IXC Communications, Inc. (incorporated by reference to Exhibit 10.16 of the 10-K).................. 10.15 Lease dated as of June 4, 1997 between IXC Communications, Inc. and Carramerca Realty, L.P. (incorporated by reference to Exhibit 10.17 of the June 30, 1997 10-Q)................. 10.16 Loan and Security Agreement dated as of July 18, 1997 among IXC Communications, Inc., IXC Carrier, Inc. and NFTC Capital Corporation ("NTFC") (incorporated by reference to Exhibit 10.18 of the June 30, 1997 10-Q)............................ 10.17 IRU and Stock Purchase Agreement dated as of July 22, 1997 between IXC Internet Services, Inc. and PSINet Inc. (incorporated by reference to Exhibit 10.19 of IXC Communications, Inc.'s Amendment No. 1 to Form 10-Q/A for the quarter ended September 30, 1997 filed with the Commission on December 12, 1997 (the "September 30, 1997 10-Q/A"))................................................... 10.18 Joint Marketing and Services Agreement dated July 22, 1997 between IXC Internet Services, Inc. and PSINet Inc. (incorporated by reference to Exhibit 10.20 of the September 30, 1997 10-Q/A)............................................ 10.19* Employment Agreement dated as of September 9, 1997 between Benjamin L. Scott and IXC Communications, Inc. (incorporated by reference to Exhibit 10.21 of IXC Communication Inc.'s Amendment No. 1 to Registration Statement on S-4 filed with the Commission on December 15, 1997 (File No. 333-37157) ("Amendment No. 1 to the EPS S-4"))......................... 10.20* IXC Communications, Inc. 1997 Special Executive Stock Plan (incorporated by reference to Exhibit 10.22 of Amendment No. 1 to the EPS S-4)........................................... 10.21+ First Amendment to Loan and Security Agreement dated as of December 23, 1997 among IXC Communications, Inc., IXC Carrier, Inc., NTFC and Export Development Corporation ("EDC").....................................................
89
SEQUENTIALLY EXHIBIT NUMBERED NUMBER DESCRIPTION PAGE - ------- ----------- ------------ 10.22+ Second Amendment to Loan and Security Agreement dated as of January 21, 1998 among IXC Communications, Inc., IXC Carrier, Inc., NTFC and EDC................................. 21.1+ Subsidiaries of IXC Communications, Inc..................... 23.1+ Consent of Ernst & Young LLP................................ 23.2+ Consent of Arthur Andersen LLP.............................. 24.1 Powers of Attorney (included as the signature page of this Form 10-K).................................................. 27.1+ Financial Data Schedule..................................... 99.1+ Marca-Tel Combining Financial Statements as of December 31, 1997 and 1996 together with Auditors' Report.
- --------------- * Management contract or executive compensation plan or arrangement required to be indicated as such and filed as an exhibit pursuant to applicable rules of the Commission. + Filed herewith. EX-3.1 2 RESTATED CERTIFICATE OF INCORPORATION 1 EXHIBIT 3.1 RESTATED CERTIFICATE OF INCORPORATION, AS AMENDED Fiber Optic Communications, Inc., a corporation organized and existing under the laws of the State of Delaware, hereby certifies as follows: 1. The name of this corporation is Fiber Optic Communications, Inc. Fiber Optic Communications, Inc. was originally incorporated under the same name. The original Certificate of Incorporation of this corporation was filed with the Secretary of State of the State of Delaware on July 27, 1992. 2. Pursuant to Sections 242 and 245 of the General Corporation Law of the State of Delaware, this Restated Certificate of Incorporation has been duly adopted and restates, integrates and further amends the provisions of the Certificate of Incorporation of this corporation. 3. This Restated Certificate of Incorporation was duly consented to, and adopted by, the holders of (i) a majority of the outstanding shares of common stock, par value $.01 per share, of the Corporation and 10% Senior Series 1 Cumulative Redeemable Preferred Stock, par value $.01 per share, of this corporation ("Series 1 Preferred Stock"), consenting together as a class and by (ii) over three-fourths (3/4s) of the outstanding shares of Series 1 Preferred Stock, acting without a meeting by unanimous written consent pursuant to Section 228 of the General Corporation Law of the State of Delaware. 4. The text of the Restated Certificate of Incorporation as heretofore amended or supplemented is hereby restated and further amended to read in its entirety as follows: FIRST: The name of this corporation (the "Corporation") is "IXC Communications, Inc." SECOND: The address of the registered office of the Corporation in the State of Delaware is Corporation Trust Center, 1209 Orange Street, in the City of Wilmington, County of New Castle, Delaware 19801. The name of its registered agent at such address is The Corporation Trust Company. THIRD: The purpose of the Corporation is to engage in any lawful act or activity for which a corporation may now or hereafter be organized under the General Corporation Law of the State of Delaware as set forth in Title 8 of the Delaware Code. FOURTH: The total number of shares of stock which the Corporation shall have authority to issue is one hundred and three million (103,000,000) consisting of (i) one 1 2 hundred million (100,000,000) shares of common stock, par value $.01 per share, and (ii) three million (3,000,000) shares of preferred stock, par value $.01 per share. The preferred stock may be issued at any time, and from time to time, in one or more series pursuant hereto or to a resolution or resolutions providing for such issue duly adopted by the board of directors (the "Board") of the Corporation (authority to do so being hereby expressly vested in the Board), and such resolution or resolutions shall also set forth the voting powers, full or limited, or none, of each such series of preferred stock and shall fix the designations, preferences and relative, participating, optional or other special rights and qualifications, limitations or restrictions of each such series of preferred stock. Upon the filing of this Second Amendment to Restated Certificate of Incorporation which amends Article FOURTH to read as set forth above, and without any further action on the part of the holders thereof, each issued and outstanding share of common stock will be reclassified and changed into 0.8083 shares of common stock. FIFTH: The business and affairs of the Corporation shall be managed by and under the direction of the Board. The exact number of directors of the Corporation shall be fixed by or in the manner provided in the Bylaws of the Corporation (the "Bylaws"). SIXTH: In furtherance and not in limitation of the powers conferred by statute, the Board is expressly authorized: (a) to adopt, repeal, rescind, alter or amend in any respect the Bylaws, and to confer in the Bylaws powers and authorities upon the directors of the Corporation in addition to the powers and authorities expressly conferred upon them by statute; (b) from time to time to set apart out of any funds or assets of the Corporation available for dividends an amount or amounts to be reserved as working capital or for any other lawful purpose and to abolish any reserve so created and to determine whether any, and, if any, what part, of the surplus of the Corporation or its net profits applicable to dividends shall be declared in dividends and paid to its stockholders, and all rights of the holders of stock of the Corporation in respect of dividends shall be subject to the power of the Board so to do; (c) subject to the laws of the State of Delaware, from time to time to sell, lease or otherwise dispose of any part or parts of the properties of the Corporation and to cease to conduct the business connected therewith or again to resume the same, as it may deem best; and (d) in addition to the powers and authorities hereinbefore and by the laws of the State of Delaware conferred upon the Board, to execute all such powers and to do all acts and things as may be exercised or done by the Corporation; subject, nevertheless, to the express provisions of such laws, of the Restated Certificate of Incorporation of the Corporation and its Bylaws. 2 3 SEVENTH: Meetings of stockholders of the Corporation may be held within or without the State of Delaware, as the Bylaws provide. The books of the Corporation may be kept (subject to any provision of applicable law) outside the State of Delaware at such place or places as may be designated from time to time by the Board or in the Bylaws. EIGHTH: The Corporation reserves the right to adopt, repeal, rescind, alter or amend in any respect any provision contained in this Restated Certificate of Incorporation in the manner now or hereafter prescribed by applicable laws, and all rights conferred on stockholders herein are granted subject to this reservation. NINTH: The Corporation is to have perpetual existence. TENTH: A director of this Corporation shall not be personally liable to the Corporation or its stockholder for monetary damages for breach of fiduciary duty as a director, except for liability (i) for any breach of the director's duty of loyalty to the Corporation or its stockholders, (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (iii) under Section 174 of the Delaware General Corporation Law, as the same exists or hereafter may be amended, or (iv) for any transaction from which the director derived an improper personal benefit. If the Delaware General Corporation Law hereafter is amended to authorize the further elimination or limitation of the liability of directors, then the liability of a director of the Corporation, in addition to the limitation on personal liability provided herein, shall be limited to the fullest extent permitted by the amended Delaware Corporation Law. No amendment to or repeal of this Article Tenth shall apply to or have any effect on the liability or alleged liability of any director of the Corporation for or with respect to any acts or omissions of such director occurring prior to such amendment or repeal. ELEVENTH: A. Designation of Two Series of Preferred Stock. There are hereby provided two series of preferred stock designated and to be known as "10% Senior Series 1 Cumulative Redeemable Preferred Stock" and "10% Junior Series 3 Cumulative Redeemable Preferred Stock." B. Definitions. As used in this Eleventh Article, the following terms shall have the meanings indicated: 1. "Common Stock" shall mean the common stock, $.01 par value per share, issued or to be issued by the Corporation. 2. "Original Issue Date" shall mean, with respect to any share of Series Preferred Stock, the date of the original issuance of such shares. 3 4 3. "Preferred Stock" shall mean the preferred stock, $.01 par value per share, issued or to be issued by the Corporation. 4. "Series 1 Preferred Stock" shall mean the 10% Senior Series 1 Cumulative Redeemable Preferred Stock, $.01 par value per share, issued or to be issued by the Corporation. 5. "Series 3 Preferred Stock" shall mean the 10% Junior Series 3 Cumulative Redeemable Preferred Stock, $.01 par value per share, issued or to be issued by the Corporation. 6. "Series Preferred Stock" shall mean, collectively, the Series 1 Preferred Stock and the Series 3 Preferred Stock. C. Number of Shares. The number of shares constituting the Series 1 Preferred Stock shall be 2,000. The number of shares constituting the Series 3 Preferred Stock shall be 12,550. D. Rights, Preferences, Privileges and Restrictions. The voting powers and relative rights, preferences, restrictions and other mattes relating to the Series Preferred Stock are as follows: 1. Dividends. (a) The holders of shares of Series 1 Preferred Stock then outstanding shall be entitled to receive, prior to the payment of any dividend on any other Preferred Stock of the Corporation or the Common Stock of the Corporation, when, as and if declared by the Board, out of funds legally available for the payment of dividends, cumulative dividends in an annual amount equal to $100 per share, plus an amount determined by applying a 10% annual rate, compounded annually, to any accrued but unpaid dividend amount from the last day of the period when such dividend accrues to the actual date of payment of such dividend, and no more. The holders of shares of Series 3 Preferred Stock then outstanding shall be entitled to receive, prior to the payment of any dividend on any other Preferred Stock of the Corporation (other than the Series 1 Preferred Stock) or the Common Stock of the Corporation, when as and if declared by the Board, out of funds legally available for the payment of dividends, cumulative dividends in an annual amount equal to $100 per share, plus an amount determined by applying a 10% annual rate, compounded annually, to any accrued but unpaid dividend amount from the last day of the period when such dividend accrues to the actual date of payment of such dividend, and no more; provided, however, that (i) the Corporation may pay dividends on the Corporation's 7-1/4% Junior Convertible Preferred Stock Due 2007 ("Convertible Preferred Stock") with additional shares of Convertible Preferred Stock and (ii) the Corporation may pay dividends on the Corporation's 12-1/2% Junior Exchangeable Preferred Stock Due 2009 (the "Initial Exchangeable Preferred Stock") and 12-1/2% Series B Junior Exchangeable Preferred Stock Due 2009 (the "Series B Stock") with additional shares of Initial Exchangeable Preferred Stock and Series B Stock, respectively. Such dividends on the outstanding shares of Series Preferred Stock shall be payable on such date as the Board may from time to time determine (each such date being a "dividend payment date"). The Board may fix a record date for the determination of holders of shares of Series Preferred Stock entitled to receive payment of a dividend declared thereon, which record date shall not be more than sixty (60) days prior to the date fixed for 4 5 the payment thereof. Each such annual dividend shall be fully cumulative and shall accrue from day to day (whether or not declared) from the first day of each period in which such dividend may be payable as herein provided, except that the first annual dividend with respect to each share of Series Preferred Stock shall accrue from the Original Issue Date of such share or such other date as determined by the Board, except that dividends with respect to each share of Series 3 Preferred Stock shall accrue from August 14, 1992. Dividends, when, as and if declared, shall be payable in cash. (b) The holder of each outstanding fractional share of Series Preferred Stock shall be entitled to a ratably proportionate amount of all dividends accruing with respect to each outstanding share of Series Preferred Stock with the same Original Issue Date and all such dividends with respect to each such outstanding fractional share shall be fully cumulative and shall accrue (whether or not declared) and shall be payable in the same manner and at such times as provided for in Section 1(a). (c) All dividends paid with respect to the outstanding shares of Series Preferred Stock pursuant to Section 1(a) shall be paid pro rata to the holders of each class entitled thereto. Each Series 1 Preferred Stock holder's pro rata share of such dividends shall be calculated by multiplying the total dividends to be paid by the percentage of (i) the aggregate accrued but unpaid dividends to the date such payment is made on all issued and outstanding shares of Series 1 Preferred Stock represented by (ii) the aggregate accrued but unpaid dividends to the date such payment is made on all shares (including fractional shares) of Series 1 Preferred Stock held by such holder, and no more. Each Series 3 Preferred Stock holder's pro rata share of such dividends shall be calculated by multiplying the total dividends to be paid by the percentage of (i) the aggregate accrued but unpaid dividends to the date such payment is made on all issued and outstanding shares of Series 3 Preferred Stock represented by (ii) the aggregate accrued but unpaid dividends to the date such payment is made on all shares (including fractional shares) of Series 3 Preferred Stock held by such holder, and no more. 2. Liquidation Rights of Series Preferred Stock: (a) In the event of any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the holders of outstanding shares of Series Preferred Stock shall be entitled to be paid out of the assets of the Corporation available for distribution to its stockholders, whether such assets are capital, surplus, or earnings, before any payment or declaration and setting apart for payment of any amount shall be made in respect of the outstanding shares of any other Preferred Stock of the Corporation or Common Stock of the Corporation, an amount equal to $1,000 per share of Series Preferred Stock then outstanding, plus all accrued but unpaid dividends thereon to the date such payment is actually made, and no more. If upon any liquidation, dissolution or winding up of the Corporation, whether voluntary or involuntary, the assets to be distributed among the holders of the outstanding shares of Series Preferred Stock shall be insufficient to permit the payment to such stockholders of the full preferential amounts set forth above, then 5 6 the entire assets of the Corporation to be distributed shall be distributed (i) first, ratably among the holders of outstanding shares of Series 1 Preferred Stock based on the full preferential amounts for the number of outstanding shares of Series 1 Preferred Stock held by each holder and (ii) second, ratably among the holders of outstanding shares of Series 3 Preferred Stock based on the full preferential amounts for the number of outstanding shares of Series 3 Preferred Stock held by each holder. The Corporation will mail written notice of such liquidation, dissolution or winding up, not less than sixty (60) days prior to the payment date stated therein, to each record holder of Series Preferred Stock. (b) A consolidation or merger of the Corporation with or into any other corporation or corporations or a sale of all or substantially all of the assets of the Corporation shall not be deemed to be a liquidation, dissolution, or winding up of the Corporation as those terms are used in this Section 2 unless such consolidation, merger or sale shall be in connection with a dissolution or winding up of the Corporation. (c) The payment of preferential amounts pursuant to this Section 2 with respect to each outstanding fractional share of Series 1 Preferred Stock shall be equal to a ratably proportionate amount of the preferential amount payable with respect to each outstanding share of Series 1 Preferred Stock with the same Original Issue Date. The payment of preferential amounts pursuant to this Section 2 with respect to each outstanding fractional share of Series 3 Preferred Stock shall be equal to the ratably proportionate amount of the preferential amount payable with respect to each outstanding share of Series 3 Preferred Stock with the same Original Issue Date. 3. Voluntary Redemption by the Corporation. (a) The Corporation, at the option of the Board, may at any time or from time to time redeem the outstanding shares of Series 1 Preferred Stock in whole or in part from any source of funds legally available therefor. The Corporation, at the option of the Board, may at any time or from time to time redeem the outstanding shares of Series 3 Preferred Stock in whole or in part from any source of funds legally available therefor, provided that there shall then be no outstanding shares of Series 1 Preferred Stock. (b) The redemption price for each outstanding share of Series Preferred Stock shall be equal to $1,000 plus an amount equal to any accrued and unpaid dividends on such share through the Redemption Date (as defined below), whether or not declared (the "Redemption Price"). (c) In the event of a redemption of only a part of the outstanding shares of a class of Series Preferred Stock, the Corporation shall effect such redemption pro rata according to the number of shares held by each holder of outstanding shares of such class of Series Preferred Stock. 6 7 (d) At least ten (10) days and not more than sixty (60) days prior to the date fixed for any redemption of shares of a class of Series Preferred Stock (the "Redemption Date"), written notice (the "Redemption Notice," and the class of Series Preferred Stock referenced in such Redemption Notice shall be referred to herein as the "Redeemed Stock") shall be sent, by registered mail, to each holder of record of the outstanding shares of Redeemed Stock at his or her mailing address last shown on the records of the Corporation. Any notice which is mailed in the manner herein provided shall be conclusively presumed to have been duly given, whether or not the holder received the notice, and failure duly to give the notice by mail, or any defect in the notice, to any holder of shares of such class of Series Preferred Stock designated for redemption shall not affect the validity of the proceedings for the redemption of any other shares of such class of Series Preferred Stock. The Redemption Notice shall state: (i) whether all or less than all of the outstanding shares of the class of Series Preferred Stock are to be redeemed and the total number of shares being redeemed; (ii) the number of outstanding shares of Redeemed Stock held by the holder which the Corporation intends to redeem; (iii) the Redemption Date and the Redemption Price; (iv) that from and after the Redemption Date, dividends shall cease to accrue; and (v) that the holder is to surrender to the Corporation, in the manner and at the place designated, the certificate or certificates representing the outstanding shares of Redeemed Stock to be redeemed. (e) On or before the Redemption Date, each holder of outstanding shares of Redeemed Stock shall surrender the certificate or certificates representing such shares to the Corporation, in the manner and at the place designated in the Redemption Notice, and thereupon the Redemption Price for such shares shall be payable to the order of the person whose name appears on such certificate or certificates as the owner thereof, and each surrendered certificate shall be cancelled and retired. In the event less than all of the shares represented by any such certificate or certificates are redeemed, a new certificate or certificates shall be issued representing the unredeemed shares. All shares of the class of Series Preferred Stock called for redemption will cease to accrue dividends as of the Redemption Date. After the Redemption Date, holders of such class of Series Preferred Stock shall no longer be treated as stockholders of the Corporation with respect to the shares of Series Preferred Stock being redeemed, except with respect to the right to receive the Redemption Price, without interest, upon the surrender of their respective certificates. 7 8 (f) The Corporation may, at its option, on or prior to the Redemption Date, deposit with its transfer agent or other redemption agent selected by the Board of Directors of the Corporation, as a trust fund, a sum sufficient to redeem the shares called for redemption, with irrevocable instructions and authority to such transfer agent or other redemption agent to give or complete the Redemption Notice and to pay to the respective holders of such shares, as evidenced by a list of such holders certified by an officer of the Corporation, the Redemption Price upon surrender of their respective share certificates. Such deposit shall be deemed to constitute full payment of such shares to their holders. In case the holders of any shares shall not, within five (5) years after such deposit, claim the amount deposited for redemption thereof, such transfer agent or other redemption agent shall, upon demand, pay over to the Corporation the balance of such amount so deposited and shall thereupon be relieved of all responsibility to the holders thereof. Any interest accrued on any funds so deposited shall belong to the Corporation, and shall be paid to it from time to time on demand. (g) All shares of Series 1 Preferred Stock which shall have been redeemed pursuant to this Section 3 shall thereupon be restored to the status of authorized but unissued shares of Series 1 Preferred Stock. (h) All shares of Series 3 Preferred Stock which shall have been redeemed pursuant to this Section 3 shall thereupon be restored to the status of authorized but unissued shares of Series 3 Preferred Stock. 4. Voting Rights. Except as otherwise provided herein or by the General Corporation Law of the State of Delaware, holders of outstanding shares of Series 1 Preferred Stock shall have no voting rights. At all meetings of the stockholders of the Corporation and in the case of any actions of stockholders in lieu of a meeting, each share of Series 3 Preferred Stock shall entitle the holder thereof to one vote. Except as otherwise provided herein or by the General Corporation Law of the State of Delaware, the holders of Common Stock and Series 3 Preferred Stock shall vote together as a single class, and neither the Common Stock nor Series 3 Preferred Stock shall be entitled to vote as a separate class on any matter to be voted on by shareholders of the Corporation, except that the holders of the Series 3 Preferred Stock shall be entitled to vote as a separate class to elect one member of the Board of Directors of the Corporation. 5. Restrictions and Limitations. Except as otherwise provided by the General Corporation Law of the State of Delaware, no amendment to this Restated Certificate of Incorporation shall be made by the Corporation which would change any of the terms, rights, preferences, privileges or restrictions provided herein so as to affect adversely any shares of Series Preferred Stock without the prior written consent of the holders of at least a majority of each of the Series 1 Preferred Stock and the Series 3 Preferred Stock entitled to vote thereon and outstanding at the time such action is taken; provided that no amendment will change (i) the rate or times at which or the manner in which dividends on any series of the Series Preferred Stock accrue or become payable, (ii) the preferences with 8 9 respect to dividends and liquidation payments set forth in Section 1 and 2 or (iii) the percentage of the holders of the Series Preferred Stock required to approve any changes described in clauses (i) or (ii) above, without the prior written consent of the holders of at least three-fourths (3/4s) of each of the Series 1 Preferred Stock and the Series 3 Preferred Stock, as applicable, then outstanding; and, provided further, that no change in the terms hereof may be accomplished by merger or consolidation of the Corporation with another corporation unless the Corporation has obtained the prior written consent of the holders of the applicable percentages of the Series 1 Preferred Stock and the Series 3 Preferred Stock then outstanding. IN WITNESS WHEREOF, the Corporation has caused this Restated Certificate of Incorporation to be signed and attested by its duly authorized officers this 31st day of January 1994. /s/ Ralph J. Swett ------------------------------- Ralph J. Swett, President Attest: /s/ John J. Willingham - ----------------------------- John J. Willingham, Secretary 9 10 CERTIFICATE OF OWNERSHIP AND MERGER MERGING IXC CARRIER GROUP, INC. INTO IXC COMMUNICATIONS, INC. (PURSUANT TO SECTION 253 OF THE GENERAL CORPORATION LAW OF DELAWARE) IXC Communications, Inc., a Delaware corporation (the "Corporation"), does hereby certify: FIRST: That the Corporation is incorporated pursuant to the General Corporation Law of the State of Delaware. SECOND: That the Corporation owns all of the outstanding shares of each class of the capital stock of IXC Carrier Group, Inc., a Delaware corporation (the "Merging Corporation"). THIRD: That the Corporation, by the following resolutions of its Board of Directors, duly adopted on the 6th day of October 1995, determined to merge into itself the Merging Corporation on the conditions set forth in such resolutions: "RESOLVED, that the Corporation merge into itself its subsidiary, IXC Carrier Group, Inc., a Delaware corporation, and assume all of said subsidiary's liabilities and obligations; FURTHER RESOLVED, that the President and Secretary of the Corporation be, and they hereby are, directed to make, execute and acknowledge a certificate of ownership and merger setting forth a copy of the resolutions to merge IXC Carrier Group, Inc. into the Corporation and to assume said subsidiary's liabilities and obligations and the date of adoption thereof and to file the same in the office of the Secretary of State of the State of Delaware and a certified copy thereof in the Office of the Recorder of Deeds of New Castle County; and FURTHER RESOLVED, that the effective date of such merger is November 30, 1995." IN WITNESS WHEREOF, the Corporation has caused its corporate seal to be affixed and this certificate to be signed by Ralph J. Swett, its President, and John J. Willingham, its Secretary, this 28th day of November 1995. IXC COMMUNICATIONS, INC., a Delaware corporation By: /s/ Ralph J. Swett -------------------------------- Ralph J. Swett, President ATTEST: By: /s/ John J. Willingham --------------------------------- John J. Willingham, Secretary [SEAL] 11 EXECUTION COPY CERTIFICATE OF DESIGNATION OF THE POWERS, PREFERENCES AND RELATIVE, PARTICIPATING, OPTIONAL AND OTHER SPECIAL RIGHTS OF 7 1/4% JUNIOR CONVERTIBLE PREFERRED STOCK DUE 2007 AND QUALIFICATIONS, LIMITATIONS AND RESTRICTIONS THEREOF - ---------------------------------------------------------------------------- Pursuant to Section 151 of the General Corporation Law of the State of Delaware - ---------------------------------------------------------------------------- IXC Communications, Inc. (the "Company"), a corporation organized and existing under the General Corporation Law of the State of Delaware, does hereby certify that, pursuant to authority conferred upon the board of directors of the Corporation (the "Board of Directors") by its Restated Certificate of Incorporation (hereinafter referred to as the "Restated Certificate of Incorporation"), and pursuant to the provisions of Section 151 of the General Corporation Law of the State of Delaware, said Board of Directors, at a meeting duly called and held on March 28, 1997, duly approved and adopted the following resolution (the "Resolution"): RESOLVED that, pursuant to the authority vested in the Board of Directors by its Certificate of Incorporation, the Board of Directors does hereby create, authorize and provide for the issuance of 7 1/4% Junior Convertible Preferred Stock Due 2007, par value $.01 per share, with a stated value initially of $100 per share, consisting of up to 1,400,000 shares having the designation, preferences, relative, participating, optional and other special rights and the qualifications, limitations and restrictions thereof that are set forth in the Restated Certificate of Incorporation and in this Resolution as follows: (a) Designation. There is hereby created out of the authorized and unissued shares of Preferred Stock of the Company a series of Preferred Stock designated as the "7 1/4% Junior Convertible Preferred Stock Due 2007" (the "Convertible Preferred Stock"). The number of shares constituting the Convertible Preferred Stock shall be 1,400,000. The liquidation preference of the Convertible Preferred Stock shall be $100 per share (the "Liquidation Preference"). 12 (b) Rank. The Convertible Preferred Stock will, with respect to dividend rights and rights on liquidation, winding-up and dissolution, rank (i) senior to all classes of common stock and to each other class of Capital Stock or series of Preferred Stock established hereafter by the Board of Directors of the Company, the terms of which do not expressly provide that it ranks senior to, or on a parity with, the Convertible Preferred Stock as to dividend rights and rights on liquidation, winding-up and dissolution of the Company (collectively referred to, together with all classes of common stock of the Company, as "Junior Stock"); (ii) on a parity with each other class of Capital Stock or series of Preferred Stock established hereafter by the Board of Directors of the Company, the terms of which expressly provide that such class or series will rank on a parity with the Convertible Preferred Stock as to dividend rights and rights on liquidation, winding-up and dissolution (collectively referred to as "Parity Stock"); and (iii) junior to each share of Series 3 Preferred Stock now or hereafter outstanding and junior to each class of Capital Stock or series of Preferred Stock established hereafter by the Board of Directors of the Company, the terms of which hereafter established classes or series expressly provide that such class or series will rank senior to the Convertible Preferred Stock as to dividend rights or rights on liquidation, winding-up and dissolution of the Company (collectively referred to as "Senior Stock"). The Company may not authorize, create or increase the authorized amount of any class or series of Senior Stock without the approval of the holders of at least two-thirds of the shares of Convertible Preferred Stock then outstanding, voting or consenting, as the case may be, as one class. All claims of the holders of the Convertible Preferred Stock, including claims with respect to dividend payments, redemption payments, mandatory repurchase payments or rights upon liquidation, winding-up or dissolution, shall rank junior to the claims of the holders of any debt of the Company and all other creditors of the Company. (c) Dividends. (i) Holders of the outstanding shares of Convertible Preferred Stock will be entitled to receive, when, as and if declared by the Board of Directors of the Company, out of funds legally available therefor, dividends on each share of the Convertible Preferred Stock at a rate per annum equal to 7 1/4% of the Liquidation 2 13 Preference of such share payable quarterly (each such quarterly period being herein called a "Dividend Period"). In addition to the dividends described in the preceding sentence, holders of outstanding shares of Convertible Preferred Stock which are Transfer Restricted Securities will be entitled to additional dividends (the "Additional Dividends"), when, as and if declared by the Board of Directors of the Company, out of funds legally available therefor, with respect to the shares of Convertible Preferred Stock, which Additional Dividends shall accrue as follows if any of the following events occur (each such event in clauses (A) and (B) below being herein called a "Registration Default"): (A) if by August 31, 1997, the Shelf Registration Statement has not been declared effective by the Commission; or (B) if after the Shelf Registration Statement is declared effective (1) the Shelf Registration Statement thereafter ceases to be effective; or (2) the Shelf Registration Statement or the related prospectus ceases to be usable (in each case except as permitted below) in connection with resales of Transfer Restricted Securities in accordance with and during the periods specified herein because either (I) any event occurs as a result of which the related prospectus forming part of such Shelf Registration Statement would include any untrue statement of a material fact or omit to state any material fact necessary to make the statements therein in the light of the circumstances under which they were made not misleading, or (II) it shall be necessary to amend such Shelf Registration Statement or supplement the related prospectus, to comply with the Securities Act or the Exchange Act or the respective rules thereunder. Additional Dividends shall accrue on the shares of Convertible Preferred Stock which are Transfer Restricted Securities from and including the date on which any such Registration Default shall occur, to but excluding the date on which all such Registration Defaults have been cured, at a rate of 7 3/4% per annum. A Registration Default referred to in clause (B) of paragraph (c)(i) shall be deemed not to have occurred and be continuing in relation to the Shelf Registration Statement or the related prospectus if (i) such Registration Default has occurred solely as a result of (x) the filing of a post-effective amendment to the Shelf Registration Statement to incorporate annual audited financial information with respect to the Company where such post-effective amendment is not yet effective and needs to be 3 14 declared effective to permit Holders to use the related prospectus or (y) other material events with respect to the Company that would need to be described in the Shelf Registration Statement or the related prospectus and (ii) in the case of clause (y), the Company proceeds promptly and in good faith to amend or supplement the Shelf Registration Statement and related prospectus to describe such events unless the Company has determined in good faith that there are material legal or commercial impediments in doing so; provided, however, that in any case if such Registration Default occurs for a continuous period in excess of 45 days, Additional Dividends shall be payable in accordance with the immediately preceding paragraphs of this paragraph (c)(i) from the day such Registration Default initially occurs until such Registration Default is cured. Any amounts of Additional Dividends due pursuant to clauses (A) or (B) of this paragraph (c)(i) or pursuant to the proviso contained in the preceding sentence will be payable on the regular dividend payment dates with respect to the Convertible Preferred Stock and on the same terms and conditions and subject to the same limitations as pertain at such time for the payment of regular dividends. The amount of Additional Dividends will be determined by multiplying the applicable Additional Dividends rate by the aggregate liquidation preference of the outstanding shares of Convertible Preferred Stock, multiplied by a fraction, the numerator of which is the number of days such Additional Dividend rate was applicable during such period (determined on the basis of a 360-day year comprised of twelve 30-day months), and the denominator of which is 360. All dividends on the Convertible Preferred Stock, including Additional Dividends, to the extent accrued, shall be cumulative, whether or not earned or declared, on a daily basis from the Issue Date or, in the case of additional shares of Convertible Preferred Stock issued in payment of a dividend, from the date of issuance of such additional shares of Convertible Preferred Stock, and shall be payable quarterly in arrears on March 31, June 30, September 30 and December 31 of each year (each a "Dividend Payment Date"), commencing on June 30, 1997 to holders of record on the March 15, June 15, September 15 and December 15 immediately preceding the relevant Dividend Payment Date. Any dividend on the Convertible Preferred Stock payable pursuant to this paragraph (c)(i) on or prior to March 31, 1999 shall be, at the option of the Company, payable (1) in cash or (2) through the issuance of a number of additional shares 4 15 (rounded to the nearest whole share) of Convertible Preferred Stock (the "Additional Shares") equal to the dividend amount divided by the Liquidation Preference of such Additional Shares. With respect to dividends accrued after March 31, 1999, all dividends shall be payable in cash; provided, however, that to the extent and for so long as the Company is prohibited by the terms of any of its indebtedness then outstanding or by the terms of the Series 3 Preferred Stock of the Company or any agreement or instrument to which the Company is then subject, from paying cash dividends on the Convertible Preferred Stock, such dividends will accrue on each share at the rate per annum equal to 8 3/4% of the Liquidation Preference per share (instead of the 7 1/4% rate set forth in the first paragraph of this paragraph (c)(i)) (together with any Additional Dividends then payable, which for purposes of this paragraph shall be payable at a rate of 0.50% over and above the 8 3/4% rate) payable through the issuance of a number of Additional Shares (rounded to the nearest whole share) equal to the dividend amount on such share divided by the Liquidation Preference of such Additional Shares on the relevant Dividend Payment Date. Except as provided herein, accrued and unpaid dividends, if any, will not bear interest or bear dividends thereon. (ii) All dividends paid with respect to shares of the Convertible Preferred Stock pursuant to paragraph (c)(i) shall be paid pro rata to the holders entitled thereto. (iii) No full dividends may be declared or paid or set apart for the payment of dividends by the Company on any Parity Stock for any period unless full cumulative dividends in respect of each Dividend Period ending on or before such period shall have been or contemporaneously are declared and paid (or are deemed declared and paid) in full or declared and, if payable in cash, a sum in cash sufficient for such payment set apart for such payment on the Convertible Preferred Stock. If full dividends are not so paid, the Convertible Preferred Stock will share dividends pro rata with the Parity Stock. (iv) The Company will not (A) declare, pay or set apart funds for the payment of any dividend or other distribution with respect to any Junior Stock or (B) redeem, purchase or otherwise acquire for consideration any Junior Stock through a sinking fund or otherwise, unless (1) all accrued and unpaid dividends with respect to the Convertible Preferred Stock and any Parity Stock at the time such 5 16 dividends are payable have been paid or funds have been set apart for payment of such dividends and (2) sufficient funds have been paid or set apart for the payment of the dividend for the current dividend period with respect to the Convertible Preferred Stock and any Parity Stock. As used herein, the term "dividend" does not include dividends payable solely in shares of Junior Stock on Junior Stock or in options, warrants or rights to holders of Junior Stock to subscribe or purchase any Junior Stock. (v) Dividends on account of arrears for any past Dividend Period and dividends in connection with any optional redemption may be declared and paid at any time, without reference to any regular Dividend Payment Date, to holders of record on such date, not more than 45 days prior to the payment thereof, as may be fixed by the Board of Directors of the Company. (vi) Dividends payable on the Convertible Preferred Stock for any period other than a Dividend Period shall be computed on the basis of a 360-day consisting year of twelve 30-day months and the actual number of days elapsed in the period for which payable. Dividends payable on the Convertible Preferred Stock for a full Dividend Period will be computed by dividing the per annum dividend rate by four. (vii) Certificates of Common Stock relating to Convertible Preferred Stock surrendered for conversion by a registered Holder during the period from the close of business on any regular record date next preceding any Dividend Payment Date to the opening of business on such Dividend Payment Date (except Convertible Preferred Shares called for redemption on a Redemption Date within such period) must be accompanied by payment in cash of an amount equal to the accrued but unpaid dividends thereon which such registered Holder is to receive on such Dividend Payment Date with respect to the Convertible Preferred Stock so surrendered. (d) Liquidation Preference. (i) Upon any voluntary or involuntary liquidation, dissolution or winding-up of the Company, holders of Convertible Preferred Stock will be entitled to be paid, out of the assets of the Company available for distribution to its stockholders, the Liquidation Preference of the outstanding shares of Convertible Preferred Stock, plus, without duplication, an amount in cash equal to all accumulated and unpaid dividends 6 17 (whether or not earned or declared and including Additional Dividends, if any,) thereon to the date fixed for liquidation, dissolution or winding-up (including an amount equal to a prorated dividend for the period from the last Dividend Payment Date to the date fixed for liquidation, dissolution or winding-up that would have been payable had the Convertible Preferred Stock been the subject of an Optional Redemption on such date) before any distribution is made on any Junior Stock. If, upon any voluntary or involuntary liquidation, dissolution or winding up of the Company, the amounts payable with respect to the Convertible Preferred Stock and all Parity Stock are not paid in full, the Convertible Preferred Stock and the Parity Stock will share equally and ratably (in proportion to the respective amounts that would be payable on such shares of Convertible Preferred Stock and the Parity Stock, respectively, if all amounts payable thereon had been paid in full) in any distribution of assets of the Company to which each is entitled. After payment of the full amount of the Liquidation Preference of the outstanding shares of Convertible Preferred Stock (and, if applicable, an amount equal to a prorated dividend), the holders of shares of Convertible Preferred Stock will not be entitled to any further participation in any distribution of assets of the Company. (ii) For the purposes of this paragraph (d), neither the sale, conveyance, exchange or transfer (for cash, shares of stock, securities or other consideration) of all or substantially all of the property or assets of the Company nor the consolidation or merger of the Company with or into one or more other entities shall be deemed to be a liquidation, dissolution or winding-up of the Company. (e) Redemption. (i) Optional Redemption. (A) The Convertible Preferred Stock shall not be redeemable prior to April 3, 2000. On or after April 3, 2000, each share of the Convertible Preferred Stock may be redeemed (subject to the legal availability of funds therefor) at any time, in whole or in part, at the option of the Company, at the redemption prices (expressed as a percentage of the Liquidation Preference of such share) set forth below, plus, without duplication, an amount in cash equal to all accrued and unpaid Liquidated Damages and all accrued and unpaid dividends to the date fixed for redemption (the "Optional Redemption Date") (including an amount in cash equal to a prorated dividend for the period from the Dividend Payment Date immediately prior to the Optional Redemption Date) (the 7 18 "Optional Redemption Price"). Notwithstanding the foregoing, prior to April 1, 2002, the Company shall only have the option to redeem shares of Convertible Preferred Stock if, during the period of 30 consecutive Trading Days ending on the Trading Day immediately preceding the date that the Redemption Notice is mailed to holders, the Closing Bid Price for the Common Stock exceeded 150% of the Conversion Price effective on the date of such Redemption Notice for at least 20 of such Trading Days. If redeemed during the 12-month period beginning April 1 of each of the years set forth below (or in the case of the year 2000, April 3), the Optional Redemption Price per share shall be the applicable percentage of the Liquidation Preference of such share set forth below plus, without duplication, in each case, an amount in cash equal to all accrued and unpaid Liquidated Damages and all accrued and unpaid dividends (including an amount equal to a prorated dividend from the immediately preceding Dividend Payment Date to the Optional Redemption Date), if any, to the Optional Redemption Date:
Year in which redemption occurs Percentage ------------------------------- ---------- 2000 . . . . . . . . . . . . . 104.83% 2001 . . . . . . . . . . . . . 104.03% 2002 . . . . . . . . . . . . . 103.22% 2003 . . . . . . . . . . . . . 102.42% 2004 . . . . . . . . . . . . . 101.61% 2005 . . . . . . . . . . . . . 100.81% 2006 . . . . . . . . . . . . . 100.00%
(B) In the event of a redemption of only a portion of the then outstanding shares of Convertible Preferred Stock, the Company shall effect such redemption on a pro rata basis, except that the Company may redeem all of the shares held by holders of fewer than 100 shares (or all of the shares held by holders who would hold less than 100 shares as a result of such redemption), as may be determined by the Company. (ii) Mandatory Redemption. Each share of the Convertible Preferred Stock (if not earlier redeemed or converted) shall be subject to mandatory redemption in whole (to the extent of lawfully available funds therefor) on March 31, 2007 (the "Mandatory Redemption Date") at a price equal to 100% of the Liquidation Preference of such share, plus, without duplication, all accrued and unpaid Liquidated Damages and accrued and unpaid dividends thereon (including 8 19 an amount equal to a prorated dividend thereon from the immediately preceding Dividend Payment Date to the Mandatory Redemption Date), if any, to the Mandatory Redemption Date (the "Mandatory Redemption Price"). (iii) Procedure for Redemption. (A) On and after the Optional Redemption Date or the Mandatory Redemption Date, as the case may be (the "Redemption Date"), unless the Company defaults in the payment of the applicable redemption price, dividends will cease to accumulate on shares of Convertible Preferred Stock called for redemption and all rights of holders of such shares will terminate except for the right to receive the Optional Redemption Price or the Mandatory Redemption Price, as the case may be, without interest; provided, however, that if a notice of redemption shall have been given as provided in paragraph (iii)(B) and the funds necessary for redemption (including an amount in respect of all dividends that will accrue to the Redemption Date) shall have been segregated and irrevocably set apart by the Company, in trust for the benefit of the holders of the shares called for redemption, then dividends shall cease to accumulate on the Redemption Date on the shares to be redeemed and, at the close of business on the day on which such funds are segregated and set apart, the holders of the shares to be redeemed shall, with respect to the shares to be redeemed, cease to be stockholders of the Company and shall be entitled only to receive the Optional Redemption Price or the Mandatory Redemption Price, as the case may be, for such shares without interest from the Redemption Date. (B) With respect to a redemption pursuant to paragraph (e)(i) or (e)(ii), the Company will send a written notice of redemption by first class mail to each holder of record of shares of Convertible Preferred Stock, not fewer than 15 days nor more than 60 days prior to the Redemption Date at its registered address (the "Redemption Notice"); provided, however, that no failure to give such notice nor any deficiency therein shall affect the validity of the procedure for the redemption of any shares of Convertible Preferred Stock to be redeemed except as to the holder or holders to whom the Company has failed to give said notice or except as to the holder or holders whose notice was defective. The Redemption Notice shall state: (1) whether the redemption is pursuant to paragraph (e)(i) or (e)(ii) hereof; 9 20 (2) the Optional Redemption Price or the Mandatory Redemption Price, as the case may be; (3) whether all or less than all the outstanding shares of the Convertible Preferred Stock are to be redeemed and the total number of shares of the Convertible Preferred Stock being redeemed; (4) the Redemption Date; (5) that the holder is to surrender to the Company, in the manner, at the place or places and at the price designated, his certificate or certificates representing the shares of Convertible Preferred Stock to be redeemed; and (6) that dividends on the shares of the Convertible Preferred Stock to be redeemed shall cease to accumulate on such Redemption Date unless the Company defaults in the payment of the Optional Redemption Price or the Mandatory Redemption Price, as the case may be. (C) Each holder of Convertible Preferred Stock shall surrender the certificate or certificates representing such shares of Convertible Preferred Stock to the Company, duly endorsed (or otherwise in proper form for transfer, as determined by the Company), in the manner and at the place designated in the Redemption Notice, and on the Redemption Date the full Optional Redemption Price or Mandatory Redemption Price, as the case may be, for such shares shall be payable in cash to the person whose name appears on such certificate or certificates as the owner thereof, and each surrendered certificate shall be canceled and retired. In the event that less than all of the shares represented by any such certificate are redeemed, a new certificate shall be issued representing the unredeemed shares. (f) Voting Rights. (i) The holders of Convertible Preferred Stock, except as otherwise required under Delaware law or as set forth in paragraphs (ii) and (iii) below, shall not be entitled or permitted to vote on any matter required or permitted to be voted upon by the stockholders of the Company. (ii) (A) If (1) dividends on the Convertible Preferred Stock are in arrears and unpaid for six or more Dividend Periods (whether or not consecutive) (a "Dividend 10 21 Default"); or (2) the Company fails to redeem the Convertible Preferred Stock on March 31, 2007, or fails to otherwise discharge any redemption obligation with respect to the Convertible Preferred Stock, then the number of directors constituting the Board of Directors of the Company will be increased by two and the Holders of the then outstanding shares of Convertible Preferred Stock (together with the holders of Parity Stock upon which like rights have been conferred and are exercisable), voting separately and as a class, shall have the right and power to elect such two additional directors. Each such event described in clauses (1) or (2) above is a "Voting Rights Triggering Event". A Voting Rights Triggering Event shall not be deemed to have occurred if at the time of such event there are less than 200,000 shares of Convertible Preferred Stock then outstanding. (B) The voting rights set forth in subparagraph (f)(ii)(A) above will continue until such time as (x) in the case of a Dividend Default, all dividends in arrears on the Convertible Preferred Stock are paid in full in cash, (y) in all other cases, any failure, breach or default giving rise to such Voting Rights Triggering Event is remedied or waived by the Holders of at least two-thirds of the shares of Convertible Preferred Stock then outstanding or (z) at any time there are less than 200,000 shares of Convertible Preferred Stock outstanding, at which time the term of any directors elected pursuant to the provisions of subparagraph (f)(ii)(A) above shall terminate and the number of directors constituting the Board of Directors shall be decreased by two (until the occurrence of any subsequent Voting Rights Triggering Event). At any time after voting power to elect directors shall have become vested and be continuing in the holders of Convertible Preferred Stock (together with the holders of Parity Stock upon which like rights have been conferred and are exercisable) pursuant to subparagraph (f)(ii)(A) hereof, or if vacancies shall exist in the offices of directors elected by such holders, a proper officer of the Company may, and upon the written request of the holders of record of at least 25% of the shares of Convertible Preferred Stock then outstanding or the holders of 25% of the shares of Parity Stock then outstanding upon which like rights have been confirmed and are exercisable addressed to the secretary of the Company shall, call a special meeting of the Holders of Convertible Preferred Stock and the holders of such Parity Stock for the purpose of electing the directors which such holders are entitled to elect pursuant to the terms hereof; 11 22 provided, however, that no such special meeting shall be called if the next annual meeting of stockholders of the Company is to be held within 60 days after the voting power to elect directors shall have become vested, in which case such meeting shall be deemed to have been called for such next annual meeting. If such meeting shall not be called by a proper officer of the Company within 20 days after personal service to the secretary of the Company at its principal executive offices, then the Holders of record of at least 25% of the outstanding shares of Convertible Preferred Stock or the holders of 25% of the shares of Parity Stock upon which like rights have been confirmed and are exercisable may designate in writing one of their members to call such meeting at the expense of the Company, and such meeting may be called by the person so designated upon the notice required for the annual meetings of stockholders of the Company and shall be held at the place for holding the annual meetings of stockholders. Any holder of Convertible Preferred Stock or such Parity Stock so designated shall have, and the Company shall provide, access to the lists of holders of Convertible Preferred Stock and the holders of such Parity Stock to be called pursuant to the provisions hereof. If no special meeting of the Holders of Convertible Preferred Stock and the holders of such Parity Stock is called as provided in this paragraph (f)(ii), then such meeting shall be deemed to have been called for the next annual meeting of stockholders of the Company or special meeting of the holders of any other capital stock of the Company. (C) At any meeting held for the purposes of electing directors at which the Holders of Convertible Preferred Stock (together with the holders of Parity Stock upon which like rights have been conferred and are exercisable) shall have the right, voting together as a separate class, to elect directors as aforesaid, the presence in person or by proxy of the holders of at least a majority in voting power of the outstanding shares of Convertible Preferred Stock (and such Parity Stock) shall be required to constitute a quorum thereof. (D) Any vacancy occurring in the office of a director elected by the Holders of Convertible Preferred Stock (and such Parity Stock) may be filled by the remaining director elected by the Holders of Convertible Preferred Stock (and such Parity Stock) unless and until such vacancy shall be filled by the Holders of Convertible Preferred Stock (and such Parity Stock). 12 23 (iii) (A) So long as any shares of the Convertible Preferred Stock are outstanding, the Company will not authorize, create or increase the authorized amount of any class or series of Senior Stock without the affirmative vote or consent of holders of at least two-thirds of the shares of Convertible Preferred Stock then outstanding, voting or consenting, as the case may be, as one class, given in person or by proxy, either in writing or by resolution adopted at an annual or special meeting (except that no such vote or consent shall be required for the issuance of additional shares of Series 3 Preferred Stock to be paid as dividends on such Series 3 Preferred Stock pursuant to the terms of such Series 3 Preferred Stock). (B) So long as any shares of the Convertible Preferred Stock are outstanding, the Company will not amend this Certificate of Designation so as to affect adversely the specified rights, preferences, privileges or voting rights of Holders of shares of Convertible Preferred Stock or to authorize the issuance of any additional shares of Convertible Preferred Stock (except to authorize the issuance of additional shares of Convertible Preferred Stock to be paid as dividends on the Convertible Preferred Stock, for which no consent shall be necessary) without the affirmative vote or consent of Holders of at least two-thirds of the issued and outstanding shares of Convertible Preferred Stock, voting or consenting, as the case may be, as one class, given in person or by proxy, either in writing or by resolution adopted at an annual or special meeting. (C) Except as set forth in paragraph (f)(iii)(A) or (B) above, (x) the creation, authorization or issuance of any shares of any Junior Stock, Parity Stock or Senior Stock, including the designation of a series of Convertible Preferred Stock, or (y) the increase or decrease in the amount of authorized Capital Stock of any class, including Preferred Stock, shall not require the consent of Holders of Convertible Preferred Stock and shall not be deemed to affect adversely the rights, preferences, privileges or voting rights of shares of Convertible Preferred Stock. (iv) In any case in which the Holders of Convertible Preferred Stock shall be entitled to vote pursuant to this paragraph (f) or pursuant to Delaware law, each Holder of Convertible Preferred Stock entitled to vote with respect to such matters shall be entitled to one vote for each share of Convertible Preferred Stock held. 13 24 (v) Except as required by law, the Holders of the Convertible Preferred Stock will not be entitled to vote on any merger or consolidation involving the Company or a sale of all or substantially all the assets of the Company. (g) Conversion. (i) At any time after 60 days from the Issue Date, at the option of the Holder thereof, any share of Convertible Preferred Stock may be converted at the Liquidation Preference thereof into fully paid and nonassessable Common Stock (calculated as to each conversion to the nearest 1/100 of a share), at the Conversion Price, determined as hereinafter provided, in effect at the time of conversion. Such conversion right shall expire at the close of business on the Mandatory Redemption Date. In case a share of Convertible Preferred Stock is called for optional redemption, such conversion right in respect of the share of Convertible Preferred Stock so called shall expire at the close of business on the applicable Optional Redemption Date, unless the Company defaults in making the payment due upon redemption. The price at which Common Stock shall be delivered upon conversion (herein called the "Conversion Price") shall be initially $23.46 per share of Common Stock. The Conversion Price shall be adjusted in certain instances as provided in paragraph (g)(iv) and paragraph (g)(v). (ii) In order to exercise the conversion privilege, the Holder of any share of Convertible Preferred Stock to be converted shall surrender the certificate for such share of Convertible Preferred Stock, duly endorsed or assigned to the Company or in blank, at the office of the Transfer Agent or at any office or agency of the Company maintained for that purpose, accompanied by written notice to the Company in the form of Exhibit B that the Holder elects to convert such share of Convertible Preferred Stock or, if fewer than all of the shares of Convertible Preferred Stock represented by a single share certificate are to be converted, the number of shares represented thereby to be converted. Except as provided in paragraph (c)(viii), no payment or adjustment shall be made upon any conversion on account of any dividends accrued on the shares of Convertible Preferred Stock surrendered for conversion or on account of any dividends on the Common Stock issued upon conversion. Such notice shall also contain the office or the address to which the Company should deliver shares of Common Stock issuable upon conversion (and any other payments or certificates related thereto). Except as 14 25 provided in paragraph (c)(viii), in no event shall the Company be obligated to pay any converting Holder any unpaid dividend, whether or not in arrears, on converted shares or any dividends on the shares of Common Stock issued upon such conversion. Shares of Convertible Preferred Stock shall be deemed to have been converted immediately prior to the close of business on the day of surrender of such shares of Convertible Preferred Stock for conversion in accordance with the foregoing provisions, and at such time the rights of the Holders of such shares of Convertible Preferred Stock as Holders shall cease, and the person or persons entitled to receive the Common Stock issuable upon conversion shall be treated for all purposes as the record holder or holders of such Common Stock at such time. As promptly as practicable on or after the conversion date, the Company shall issue and shall deliver to such office or agency as the converting Holder shall have designated in its written notice to the Company a certificate or certificates for the number of full Common Stock issuable upon conversion, together with payment in lieu of any fraction of a share, as provided in paragraph (g)(iii) hereof. In the case of any conversion of fewer than all the shares of Convertible Preferred Stock evidenced by a certificate, upon such conversion the Company shall execute and the Transfer Agent shall authenticate and deliver to the Holder thereof (at the address designated by such Holder), at the expense of the Company, a new certificate or certificates representing the number of unconverted shares of Convertible Preferred Stock. (iii) No fractional Common Stock shall be issued upon the conversion of a share of Convertible Preferred Stock. If more than one share of Convertible Preferred Stock shall be surrendered for conversion at one time by the same holder, the number of full shares of Common Stock which shall be issuable upon conversion thereof shall be computed on the basis of the aggregate shares of Convertible Preferred Stock so surrendered. Instead of any fractional share of Common Stock which would otherwise be issuable upon conversion of any share of Convertible Preferred Stock, the Company shall pay a cash adjustment in respect of such fraction in an amount equal to the same fraction of the closing price (as defined in paragraph (g)(iv)(7)) per share of Common Stock at the close of business on the Business Day prior to the day of conversion. 15 26 (iv) The Conversion Price shall be adjusted from time to time by the Company as follows: (1) If the Company shall hereafter pay a dividend or make a distribution in Common Stock to all holders of any outstanding class or series of Common Stock of the Company, the Conversion Price in effect at the opening of business on the date following the date fixed for the determination of shareholders entitled to receive such dividend or other distribution shall be reduced by multiplying such Conversion Price by a fraction of which the numerator shall be the number of shares of Common Stock outstanding at the close of business on the Record Date (as defined in paragraph (g)(iv)(7)) fixed for such determination and the denominator shall be the sum of such number of outstanding shares and the total number of shares constituting such dividend or other distribution, such reduction to become effective immediately after the opening of business on the day following the Record Date. If any dividend or distribution of the type described in this paragraph (g)(iv)(i) is declared but not so paid or made, the Conversion Price shall again be adjusted to the Conversion Price which would then be in effect if such dividend or distribution had not been declared. (2) If the Company shall offer or issue rights or warrants to all holders of its outstanding Common Stock entitling them to subscribe for or purchase Common Stock at a price per share less than the Current Market Price (as defined in paragraph (g)(iv)(7)) on the Record Date fixed for the determination of shareholders entitled to receive such rights or warrants, the Conversion Price shall be adjusted so that the same shall equal the price determined by multiplying the Conversion Price in effect at the opening of business on the date after such Record Date by a fraction of which the numerator shall be the number of shares of Common Stock outstanding at the close of business on the Record Date plus the number of shares of Common Stock which the aggregate offering price of the total number of shares of Common Stock subject to such rights or warrants would purchase at such Current Market Price and of which the denominator shall be the number of shares of Common Stock outstanding at the close of business on the Record Date plus the total number of additional shares of Common Stock subject to such 16 27 rights or warrants for subscription or purchase. Such adjustment shall become effective immediately after the opening of business on the day following the Record Date fixed for determination of shareholders entitled to purchase or receive such rights or warrants. To the extent that shares of Common Stock are not delivered pursuant to such rights or warrants, upon the expiration or termination of such rights or warrants the Conversion Price shall again be adjusted to be the Conversion Price which would then be in effect had the adjustments made upon the issuance of such rights or warrants been made on the basis of delivery of only the number of shares of Common Stock actually delivered. If such rights or warrants are not so issued, the Conversion Price shall again be adjusted to be the Conversion Price which would then be in effect if such date fixed for the determination of shareholders entitled to receive such rights or warrants had not been fixed. In determining whether any rights or warrants entitle the holders to subscribe for or purchase Common Stock at less than such Current Market Price, and in determining the aggregate offering price of such shares of Common Stock, there shall be taken into account any consideration received for such rights or warrants, with the value of such consideration, if other than cash, to be determined by the Board of Directors. (3) If the outstanding shares of Common Stock shall be subdivided into a greater number of shares of Common Stock, the Conversion Price in effect at the opening of business on the day following the day upon which such subdivision becomes effective shall be proportionately reduced, and, conversely, if the outstanding shares of Common Stock shall be combined into a smaller number of shares of Common Stock, the Conversion Price in effect at the opening of business on the day following the day upon which such combination becomes effective shall be proportionately increased, such reduction or increase, as the case may be, to become effective immediately after the opening of business on the day following the day upon which such subdivision or combination becomes effective. (4) If the Company shall, by dividend or otherwise, distribute to all holders of its shares of Common Stock shares of any class of capital stock of the Company (other than any dividends or distributions 17 28 to which paragraph (g)(iv)(1) applies) or evidences of its indebtedness, cash or other assets (including securities, but excluding any rights or warrants of a type referred to in paragraph (g)(iv)(2) and excluding dividends and distributions paid exclusively in cash and excluding any capital stock, evidences of indebtedness, cash or assets distributed upon a merger or consolidation to which paragraph (g)(v) applies) (the foregoing hereinafter in this paragraph (g)(iv)(4) called the "Distributed Securities"), then, in each such case, the Conversion Price shall be reduced so that the same shall be equal to the price determined by multiplying the Conversion Price in effect immediately prior to the close of business on the Record Date (as defined in paragraph (g)(iv)(7)) with respect to such distribution by a fraction of which the numerator shall be the Current Market Price (determined as provided in paragraph (g)(iv)(7)) of the Common Stock on such date less the fair market value (as determined by the Board of Directors, whose determination shall be conclusive and described in a resolution of the Board of Directors) on such date of the portion of the Distributed Securities so distributed applicable to one share of Common Stock and the denominator shall be such Current Market Price, such reduction to become effective immediately prior to the opening of business on the day following the Record Date; provided, however, that, in the event the then fair market value (as so determined) of the portion of the Distributed Securities so distributed applicable to one share of Common Stock is equal to or greater than the Current Market Price on the Record Date, in lieu of the foregoing adjustment, adequate provision shall be made so that each holder of Convertible Preferred Stock shall have the right to receive upon conversion of a share of Convertible Preferred Stock (or any portion thereof) the amount of Distributed Securities such holder would have received had such holder converted such share of Convertible Preferred Stock (or portion thereof) immediately prior to such Record Date. If such dividend or distribution is not so paid or made, the Conversion Price shall again be adjusted to be the Conversion Price which would then be in effect if such dividend or distribution had not been declared. If the Board of Directors determines the fair market value of any distribution for purposes of this paragraph (g)(iv)(4) by reference to the actual or when issued trading market for any securities comprising all 18 29 or part of such distribution, it must in doing so consider the prices in such market over the same period used in computing the Current Market Price pursuant to paragraph (g)(iv)(7) to the extent possible. Rights or warrants distributed by the Company to all holders of Common Stock entitling the holders thereof to subscribe for or purchase shares of the Company's capital stock (either initially or under certain circumstances), which rights or warrants, until the occurrence of a specified event or events ("Dilution Trigger Event"): (i) are deemed to be transferred with such Common Stock; (ii) are not exercisable; and (iii) are also issued in respect of future issuances of Common Stock, shall be deemed not to have been distributed for purposes of this paragraph (g)(iv)(4) (and no adjustment to the Conversion Price under this paragraph (g)(iv)(4) shall be required) until the occurrence of the earliest Dilution Trigger Event, whereupon such rights and warrants shall be deemed to have been distributed and an appropriate adjustment to the Conversion Price under this paragraph (g)(iv)(4) shall be made. If any such rights or warrants, including any such existing rights or warrants distributed prior to the date hereof, are subject to subsequent events, upon the occurrence of each of which such rights or warrants shall become exercisable to purchase different securities, evidences of indebtedness or other assets, then the occurrence of each such event shall be deemed to be such date of issuance and record date with respect to new rights or warrants (and a termination or expiration of the existing rights or warrants without exercise by the holder thereof). In addition, in the event of any distribution (or deemed distribution) of rights or warrants, or any Dilution Trigger Event with respect thereto, that was counted for purposes of calculating a distribution amount for which an adjustment to the Conversion Price under this paragraph (g)(iv)(4) was made, (1) in the case of any such rights or warrants which shall all have been redeemed or repurchased without exercise by any holders thereof, the Conversion Price shall be readjusted upon such final redemption or repurchase to give effect to such distribution or Dilution Trigger Event, as the case may be, as though it were a cash distribution, equal to the per share redemption or repurchase price received by a holder or holders of Common Stock with respect to such rights or 19 30 warrants (assuming such holder had retained such rights or warrants), made to all holders of Common Stock as of the date of such redemption or repurchase, and (2) in the case of such rights or warrants which shall have expired or been terminated without exercise by any holders thereof, the Conversion Price shall be readjusted as if such rights and warrants had not been issued. Notwithstanding any other provision of this paragraph (g)(iv)(4) to the contrary, capital stock, rights, warrants, evidences of indebtedness, other securities, cash or other assets (including, without limitation, any rights distributed pursuant to any shareholder rights plan) shall be deemed not to have been distributed for purposes of this paragraph (g)(iv)(4) if the Company makes proper provision so that each holder of shares of Convertible Preferred Stock who converts a share of Convertible Preferred Stock (or any portion thereof) after the date fixed for determination of shareholders entitled to receive such distribution shall be entitled to receive upon such conversion, in addition to the Common Stock issuable upon such conversion, the amount and kind of such distributions that such holder would have been entitled to receive if such holder had, immediately prior to such determination date, converted such share of Convertible Preferred Stock into Common Stock. For purposes of this paragraph (g)(iv)(4) and paragraphs (g)(iv)(1) and (2), any dividend or distribution to which this paragraph (g)(iv)(4) is applicable that also includes Common Stock, or rights or warrants to subscribe for or purchase Common Stock to which paragraph (g)(iv)(2) applies (or both), shall be deemed instead to be (1) a dividend or distribution of the evidences of indebtedness, cash, assets, shares of capital stock, rights or warrants other than (A) such shares of Common Stock or (B) rights or warrants to which paragraph (g)(iv)(2) applies (and any Conversion Price reduction required by this paragraph (g)(iv)(4) with respect to such dividend or distribution shall then be made) immediately followed by (2) a dividend or distribution of such Common Stock or such rights or warrants (and any further Conversion Price reduction required by paragraph (g)(iv)(1) and (2) with respect to such dividend or distribution shall then be made), except that (1) the Record Date of such 20 31 dividend or distribution shall be substituted as "the Record Date fixed for the determination of stockholders entitled to receive such dividend or other distribution", "Record Date fixed for such determination" and "Record Date" within the meaning of paragraph (g)(iv)(1) and as "the Record Date fixed for the determination of shareholders entitled to receive such rights or warrants", "the date fixed for the determination of the shareholders entitled to receive such rights or warrants" and "such Record Date" within the meaning of paragraph (g)(iv)(2), and (2) any share of Common Stock included in such dividend or distribution shall not be deemed "outstanding at the close of business on the date fixed for such determination" within the meaning of paragraph (g)(iv)(1). (5) If the Company shall, by dividend or otherwise, distribute to all holders of its Common Stock cash (excluding any cash that is distributed upon a merger or consolidation to which paragraph (g)(v) applies or as part of a distribution referred to in paragraph (g)(iv)) in an aggregate amount that, combined together with (1) the aggregate amount of any other such distributions to all holders of its Common Stock made exclusively in cash within the 12 months preceding the date of payment of such distribution, and in respect of which no adjustment pursuant to this paragraph (g)(iv)(5) has been made, and (2) the aggregate of any cash plus the fair market value (as determined by the Board of Directors, whose determination shall be conclusive and described in a resolution of the Board of Directors) of consideration payable in respect of any tender offer by the Company or a Subsidiary of the Company for all or any portion of the Common Stock concluded within the 12 months preceding the date of payment of such distribution, and in respect of which no adjustment pursuant to paragraph (g)(iv)(4) has been made, exceeds 12.5% of the product of the Current Market Price (determined as provided in paragraph (g)(iv)(7)) on the Record Date with respect to such distribution times the number of shares of Common Stock outstanding on such date, then, and in each such case, immediately after the close of business on such date, the Conversion Price shall be reduced so that the same shall equal the price determined by multiplying the Conversion Price in effect immediately prior to the close of business on 21 32 such Record Date by a fraction (i) the numerator of which shall be equal to the Current Market Price on the Record Date less an amount equal to the quotient of (x) the excess of such combined amount over such 12.5% amount divided by (y) the number of shares of Common Stock outstanding on the Record Date and (ii) the denominator of which shall be equal to the Current Market Price on such Record Date; provided, however, that, if the portion of the cash so distributed applicable to one share of Common Stock is equal to or greater than the Current Market Price of the Common Stock on the Record Date, in lieu of the foregoing adjustment, adequate provision shall be made so that each holder of Convertible Preferred Stock shall have the right to receive upon conversion of a share of Convertible Preferred Stock (or any portion thereof) the amount of cash such holder would have received had such holder converted such share of Convertible Preferred Stock (or portion thereof) immediately prior to such Record Date. If such dividend or distribution is not so paid or made, the Conversion Price shall again be adjusted to be the Conversion Price which would then be in effect if such dividend or distribution had not been declared. (6) If a tender or exchange offer made by the Company or any of its Subsidiaries for all or any portion of the Common Stock expires and such tender or exchange offer (as amended upon the expiration thereof) requires the payment to shareholders (based on the acceptance (up to any maximum specified in the terms of the tender offer) of Purchased Shares (as defined below)) of an aggregate consideration having a fair market value (as determined by the Board of Directors, whose determination shall be conclusive and described in a resolution of the Board of Directors) that, combined together with (1) the aggregate of the cash plus the fair market value (as determined by the Board of Directors, whose determination shall be conclusive and described in a resolution of the Board of Directors), as of the expiration of such tender offer, of consideration payable in respect of any other tender offers, by the Company or any of its Subsidiaries for all or any portion of the Common Stock expiring within the 12 months preceding the expiration of such tender offer and in respect of which no adjustment pursuant to this paragraph (g)(iv)(6) has been made and (2) the aggregate amount of any distributions to all holders of 22 33 the Common Stock made exclusively in cash within 12 months preceding the expiration of such tender offer and in respect of which no adjustment pursuant to paragraph (g)(iv)(5) has been made, exceeds 12.5% of the product of the Current Market Price (determined as provided in paragraph (g)(iv)(7)) as of the last time (the "Expiration Time") tenders could have been made pursuant to such tender offer (as it may be amended) times the number of shares of Common Stock outstanding (including any tendered shares) at the Expiration Time, then, and in each such case, immediately prior to the opening of business on the day after the date of the Expiration Time, the Conversion Price shall be adjusted so that the same shall equal the price determined by multiplying the Conversion Price in effect immediately prior to the close of business on the date of the Expiration Time by a fraction of which the numerator shall be the number of shares of Common Stock outstanding (including any tendered shares) at the Expiration Time multiplied by the Current Market Price of the Common Stock on the Trading Day next succeeding the Expiration Time and the denominator shall be the sum of (x) the fair market value (determined as aforesaid) of the aggregate consideration payable to shareholders based on the acceptance (up to any maximum specified in the terms of the tender offer) of all shares validly tendered and not withdrawn as of the Expiration Time (the shares deemed so accepted, up to any such maximum, being referred to as the "Purchased Shares") and (y) the product of the number of shares of Common Stock outstanding (less any Purchased Shares) at the Expiration Time and the Current Market Price of the Common Stock on the Trading Day next succeeding the Expiration Time, such reduction (if any) to become effective immediately prior to the opening of business on the day following the Expiration Time. If the Company is obligated to purchase shares pursuant to any such tender offer, but the Company is permanently prevented by applicable law from effecting any such purchases or all such purchases are rescinded, the Conversion Price shall again be adjusted to be the Conversion Price which would then be in effect if such tender offer had not been made. If the application of this paragraph (g)(iv)(6) to any tender offer would result in an increase in the Conversion Price, no adjustment shall be made for such tender offer under this paragraph (g)(iv)(6). 23 34 (7) For purposes of this paragraph (g)(iv), the following terms shall have the meaning indicated: "closing price" with respect to any securities on any day means the closing price on such day or, if no such sale takes place on such day, the average of the reported high and low prices on such day, in each case on The Nasdaq National Market or the New York Stock Exchange, as applicable, or, if such security is not listed or admitted to trading on such national market or exchange, on the principal national securities exchange or quotation system on which such security is quoted or listed or admitted to trading, or, if not quoted or listed or admitted to trading on any national securities exchange or quotation system, the average of the high and low prices of such security on the over-the-counter market on the day in question as reported by the National Quotation Bureau Incorporated or a similar generally accepted reporting service, or, if not so available, in such manner as furnished by any New York Stock Exchange member firm selected from time to time by the Board of Directors for that purpose, or a price determined in good faith by the Board of Directors, whose determination shall be conclusive and described in a resolution of the Board of Directors. "Current Market Price" means the average of the daily closing prices per share of Common Stock for the 10 consecutive trading days immediately prior to the date in question; provided, however, that (A) if the "ex" date (as hereinafter defined) for any event (other than the issuance or distribution requiring such computation) that requires an adjustment to the Conversion Price pursuant to paragraphs (g)(iv)(1), (2), (3), (4), (5) or (6) occurs during such 10 consecutive trading days, the closing price for each trading day prior to the "ex" date for such other event shall be adjusted by multiplying such closing price by the same fraction by which the Conversion Price is so required to be adjusted as a result of such other event, (B) if the "ex" date for any event (other than the issuance or distribution requiring such computation) that requires an adjustment to the Conversion Price pursuant to paragraphs (g)(iv)(1), (2), (3), (4), (5) or (6) occurs on or after the "ex" date for the issuance or distribution requiring such computation and prior to the day in question, the closing price for each trading day on and after the 24 35 "ex" date for such other event shall be adjusted by multiplying such closing price by the reciprocal of the fraction by which the Conversion Price is so required to be adjusted as a result of such other event and (C) if the "ex" date for the issuance or distribution requiring such computation is prior to the day in question, after taking into account any adjustment required pursuant to clause (A) or (B) of this proviso, the closing price for each trading day on or after such "ex" date shall be adjusted by adding thereto the amount of any cash and the fair market value (as determined by the Board of Directors in a manner consistent with any determination of such value for purposes of paragraphs (g)(iv)(4) or (5), whose determination shall be conclusive and described in a resolution of the Board of Directors) of the evidence of indebtedness, shares of capital stock or assets being distributed applicable to one Common Stock as of the close of business on the day before such "ex" date. For purposes of any computation under paragraph (g)(vi), the Current Market Price on any date shall be deemed to be the average of the daily closing prices per share of Common Stock for such day and the next two succeeding trading days; provided, however, that, if the "ex" date for any event (other than the tender offer requiring such computation) that requires an adjustment to the Conversion Price pursuant to paragraph (g)(iv)(1), (2), (3), (4), (5) or (6) occurs on or after the Expiration Time for the tender or exchange offer requiring such computation and prior to the day in question, the closing price for each trading day on and after the "ex" date for such other event shall be adjusted by multiplying such closing price by the reciprocal of the fraction by which the Conversion Price is so required to be adjusted as a result of such other event. For purposes of this paragraph, the term "ex" date (I) when used with respect to any issuance or distribution, means the first date on which the Common Stock trades regular way on the relevant exchange or in the relevant market from which the closing price was obtained without the right to receive such issuance or distribution, (II) when used with respect to any subdivision or combination of Common Stock, means the first date on which the Common Stock trades regular way on such exchange or in such market after the time at which such subdivision or combination becomes effective and (III) when used with respect to any tender or exchange offer means the first date on which the Common 25 36 Stock trades regular way on such exchange or in such market after the Expiration Time of such offer. Notwithstanding the foregoing, whenever successive adjustments to the Conversion Price are called for pursuant to this paragraph (g)(iv), such adjustments shall be made to the Current Market Price as may be necessary or appropriate to effectuate the intent of this paragraph (g)(iv) and to avoid unjust or inequitable results, as determined in good faith by the Board of Directors. "fair market value" shall mean the amount which a willing buyer would pay a willing seller in an arm's-length transaction. "Record Date" shall mean, with respect to any dividend, distribution or other transaction or event in which the holders of Common Stock have the right to receive any cash, securities or other property or in which the Common Stock (or other applicable security) is exchanged for or converted into any combination of cash, securities or other property, the date fixed for determination of shareholders entitled to receive such cash, securities or other property (whether such date is fixed by the Board of Directors or by statute, contract or otherwise). (8) No adjustment in the Conversion Price shall be required unless such adjustment would require an increase or decrease of at least 1% in such price; provided, however, that any adjustments which by reason of this paragraph (g)(iv)(8) are not required to be made shall be carried forward and taken into account in any subsequent adjustment. All calculations under this paragraph (g)(iv)(8) shall be made by the Company and shall be made to the nearest cent or to the nearest one-hundredth of a share, as the case may be. No adjustment need be made for a change in the par value or no par value of the Common Stock. (9) Whenever the Conversion Price is adjusted as herein provided, the Company shall promptly file with the Transfer Agent an Officers' Certificate setting forth the Conversion Price after such adjustment and setting forth a brief statement of the facts requiring such adjustment. Promptly after delivery of such certificate, the Company shall prepare a notice of such adjustment of the Conversion Price setting forth the 26 37 adjusted Conversion Price and the date on which each adjustment becomes effective and shall mail such notice of such adjustment of the Conversion Price to each holder of Convertible Preferred Stock at such holder's last address appearing on the register of holders maintained for that purpose within 20 days of the effective date of such adjustment. Failure to deliver such notice shall not affect the legality or validity of any such adjustment. (10) In any case in which this paragraph (g)(iv) provides that an adjustment shall become effective immediately after a Record Date for an event, the Company may defer until the occurrence of such event issuing to the holder of any share of Convertible Preferred Stock converted after such Record Date and before the occurrence of such event the additional Common Stock issuable upon such conversion by reason of the adjustment required by such event over and above the Common Stock issuable upon such conversion before giving effect to such adjustment. (11) For purposes of this paragraph (g)(iv), the number of shares of Common Stock at any time outstanding shall not include shares held in the treasury of the Company but shall include shares issuable in respect of scrip certificates issued in lieu of fractions of Common Stock. The Company shall not pay any dividend or make any distribution on Common Stock held in the treasury of the Company. (v) In case of any consolidation of the Company with, or merger of the Company into, any other corporation, or in case of any merger of another corporation into the Company (other than a merger which does not result in any reclassification, conversion, exchange or cancellation of outstanding shares of Common Stock of the Company), or in case of any conveyance or transfer of the properties and assets of the Company substantially as an entirety, the holder of each share of Convertible Preferred Stock then outstanding shall have the right thereafter, during the period such Convertible Preferred Stock shall be convertible as specified in paragraph (g)(i), to convert such share of Convertible Preferred Stock only into the kind and amount of securities, cash and other property receivable upon such consolidation, merger, conveyance or transfer by a holder of the number of 27 38 shares of Common Stock of the Company into which such share of Convertible Preferred Stock might have been converted immediately prior to such consolidation, merger, conveyance or transfer, assuming such holder of Common Stock of the Company failed to exercise his rights of election, if any, as to the kind or amount of securities, cash and other property receivable upon such consolidation, merger, conveyance or transfer (provided that, if the kind or amount of securities, cash and other property receivable upon such consolidation, merger, conveyance or transfer is not the same for each share of Common Stock of the Company in respect of which such rights of election shall not have been exercised ("nonelecting share"), then for the purpose of this paragraph (g)(v) the kind and amount of securities, cash and other property receivable upon such consolidation, merger, conveyance or transfer by each nonelecting share shall be deemed to be the kind and amount so receivable per share by a plurality of the nonelecting shares). Such securities shall provide for adjustments which, for events subsequent to the effective date of the triggering event, shall be as nearly equivalent as may be practicable to the adjustments provided for in this paragraph (g)(v). The above provisions of this Section shall similarly apply to successive consolidations, mergers, conveyances or transfers. (vi) In case: (1) the Company shall declare a dividend (or any other distribution) on its Common Stock payable otherwise than in cash out of its earned surplus; or (2) the Company shall authorize the granting to all holders of its Common Stock of rights or warrants to subscribe for or purchase any shares of capital stock of any class or of any other rights; or (3) of any reclassification of the Common Stock of the Company (other than a subdivision or combination of its outstanding Common Stock), or of any consolidation or merger to which the Company is a party and for which approval of any shareholders of the Company is required, or the sale or transfer of all or substantially all the assets of the Company; or 28 39 (4) of the voluntary or involuntary dissolution, liquidation or winding up of the Company; then the Company shall cause to be filed with the Transfer Agent and at each office or agency maintained for the purpose of conversion of the Convertible Preferred Stock, and shall cause to be mailed to all holders at their last addresses as they shall appear in the Convertible Preferred Stock Register, at least 20 days (or 10 days in any case specified in clause (1) or (2) above) prior to the applicable date hereinafter specified, a notice stating (x) the date on which a record is to be taken for the purpose of such dividend, distribution, rights or warrants, or, if a record is not to be taken, the date as of which the holders of Common Stock of record to be entitled to such dividend, distribution, rights or warrants are to be determined or (y) the date on which such reclassification, consolidation, merger, sale, transfer, dissolution, liquidation or winding up is expected to become effective, and the date as of which it is expected that holders of Common Stock of record shall be entitled to exchange their Common Stock for securities, cash or other property deliverable upon such reclassification, consolidation, merger, sale, transfer, dissolution, liquidation or winding up. Failure to give the notice requested by this Section or any defect therein shall not affect the legality or validity of any dividend, distribution, right, warrant, reclassification, consolidation, merger, sale, transfer, dissolution, liquidation or winding up, or the vote upon any such action. (vii) The Company shall at all times reserve and keep available, free from preemptive rights, out of its authorized but unissued shares of Common Stock (or out of its authorized shares of Common Stock held in the treasury of the Company), for the purpose of effecting the conversion of the Convertible Preferred Stock, the full number of Common Stock then issuable upon the conversion of all outstanding shares of Convertible Preferred Stock. (viii) The Company will pay any and all document, stamp or similar issue or transfer taxes that may be payable in respect of the issue or delivery of Common Stock on conversion of the Convertible Preferred Stock pursuant hereto. The Company shall not, however, be required to pay any tax which may be payable in respect of any transfer involved in the issue and delivery of shares of Common Stock in a name other than that of the holder of the share of 29 40 Convertible Preferred Stock or the shares of Convertible Preferred Stock to be converted, and no such issue or delivery shall be made unless and until the Person requesting such issue has paid to the Company the amount of any such tax, or has established to the satisfaction of the Company that such tax has been paid. (ix) (1) Notwithstanding any other provision in the preceding paragraphs to the contrary, if any Change in Control occurs then, if the Company does not elect to make a Change in Control Offer, the Conversion Price in effect shall be adjusted immediately after such Change in Control as described below. In addition, in the event of a Common Stock Change in Control (as defined in this paragraph (g)(ix)), each share of the Convertible Preferred Stock shall be convertible solely into common stock of the kind received by holders of Common Stock as the result of such Common Stock Change in Control. For purposes of calculating any adjustment to be made pursuant to this paragraph in the event of a Change in Control, immediately after such Change in Control: (A) in the case of a Non-Stock Change in Control (as defined in this paragraph (g)(ix)), the Conversion Price shall thereupon become the lower of (x) the Conversion Price in effect immediately prior to such Non-Stock Change in Control, but after giving effect to any other prior adjustments, and (y) the result obtained by multiplying the greater of the Applicable Price (as defined in this paragraph (g)(ix)) or the then applicable Reference Market Price (as defined in this paragraph (g)(ix)) by a fraction of which the numerator shall be $100.00 and the denominator shall be the then current Optional Redemption Price per share; and (B) in the case of a Common Stock Change in Control, the Conversion Price in effect immediately prior to such Common Stock Change in Control, but after giving effect to any prior adjustments, shall thereupon be adjusted by multiplying such Conversion Price by a fraction, of which the numerator shall be the Purchaser Stock Price (as defined in this paragraph (g)(ix)) and the denominator shall be the Applicable Price; provided, however, that in the event of a Common Stock Change in Control in which (x) 100% of the value of the consideration received by a holder of Common Stock is common stock of the successor, acquiror, or other third 30 41 party (and cash, if any, is paid with respect to any fractional interests in such common stock resulting from such Common Stock Change in Control) and (y) all of the Common Stock will have been exchanged for, converted into, or acquired for, common stock (and cash with respect to fractional interests) of the successor, acquiror or other third party, the Conversion Price in effect immediately prior to such Common Stock Change in Control shall thereupon be adjusted by multiplying such Conversion Price by a fraction, of which the numerator shall be one (1) and the denominator shall be the number of shares of common stock of the successor, acquiror, or other third party received by a holder of one share of Common Stock as a result of such Common Stock Change in Control. (3) For purposes of this paragraph (ix), the following terms shall have the meanings indicated: "Applicable Price" means (i) in the event of a Non-Stock Change in Control in which the holders of the Common Stock receive only cash, the amount of cash received by the holder of one share of Common Stock and (ii) in the event of any other Non-Stock Change in Control or any Common Stock Change in Control, the average of the Closing Bid Prices for the Common Stock during the ten Trading Days prior to and including the record date for the determination of the holders of Common Stock entitled to receive cash, securities, property or other assets in connection with such Non-Stock Change in Control or Common Stock Change in Control or, if there is no such record date, the date upon which the holders of the Common Stock shall have the right to receive such cash, securities, property or other assets, in each case, as adjusted in good faith by the Board of Directors to appropriately reflect any of the events referred to in paragraph (g)(iv)(1) through (6). "Common Stock Change in Control" means any Change in Control in which more than 50% of the value (as determined in good faith by the Board of Directors of the Company) of the consideration received by holders of Common Stock consists of common stock that for each of the ten consecutive Trading Days referred to in the preceding paragraph has been admitted for listing or admitted for listing subject to notice of issuance on a national securities exchange or quoted on The Nasdaq 31 42 National Market; provided, however, that a Change in Control shall not be a Common Stock Change in Control unless either (i) the Company continues to exist after the occurrence of such Change in Control and the outstanding shares of Convertible Preferred Stock continue to exist as outstanding shares of Convertible Preferred Stock, or (ii) not later than the occurrence of such Change in Control, the outstanding shares of Convertible Preferred Stock are converted into or exchanged for shares of convertible preferred stock of a corporation succeeding to the business of the Company, which convertible preferred stock has powers, preferences and relative, participating, optional or other rights, and qualifications, limitations and restrictions, substantially similar to those of the Convertible Preferred Stock. "Non-Stock Change in Control" means any Change in Control other than a Common Stock Change in Control. "Purchaser Stock Price" means, with respect to any Common Stock Change in Control, the product of (i) the number of shares of common stock received in such Common Stock Change of Control for each share of Common Stock, and (ii) the average of the per share Closing Prices for the common stock received in such Common Stock Change in Control for the ten consecutive Trading Days prior to and including the record date for the determination of the holders of Common Stock entitled to receive such common stock, or if there is no such record date, the date upon which the holders of the Common Stock shall have the right to receive such common stock, in each case, as adjusted in good faith by the Board of Directors to appropriately reflect any of the events referred to in paragraph (g)(iv)(1) through (6); provided, however, that if no such Closing Prices exist, then the Purchaser Stock Price shall be set at a price determined in good faith by the Board of Directors of the Company. "Reference Market Price" shall initially mean $13.50 (which is an amount equal to 66-2/3% of the reported last sale price for the Common Stock on The Nasdaq National Market on March 25, 1997), and in the event of any adjustment to the conversion prices other than as a result of a Change in Control, the Reference Market Price shall also be adjusted so that the ratio of the Reference Market Price to the Conversion Price 32 43 after giving effect to any such adjustment shall always be the same as the ratio of $13.50 to the initial Conversion Price set forth in paragraph (g)(i). (h) Change in Control. (i) Upon the occurrence of a Change of Control (the date of such occurrence being the "Change in Control Date"), the Company shall be obligated to (1) purchase all or a portion of each holder's Convertible Preferred Stock in cash pursuant to the offer described in paragraph (h)(iii) (the "Change of Control Offer") at a purchase price equal to 100% of the Liquidation Preference, plus, without duplication, all accrued and unpaid Liquidated Damages and all accrued and unpaid dividends, if any, to the Change of Control Payment Date, including an amount in cash equal to a prorated dividend for the period from the Dividend Payment Date immediately prior to the Change of Control Payment Date to the Change of Control Payment Date or (2) adjust the conversion price as provided under paragraph (g)(ix). Notwithstanding the foregoing, the Company shall, prior to electing to make a Change of Control Offer, make an offer to redeem all outstanding shares of Series 3 Preferred Stock. (ii) Prior to the mailing of the notice referred to in paragraph (h)(iii), but in any event within 15 days following the date on which the Company knows or reasonably should have known that a Change in Control has occurred, the Company covenants that it shall promptly determine if the purchase of the Convertible Preferred Stock would violate or constitute a default under the Indenture or other indebtedness of the Company. (iii) Within 15 days following the date on which the Company knows or reasonably should have known that a Change in Control has occurred, the Company must send, by first-class mail, postage prepaid, a notice to each holder of Convertible Preferred Stock. Such notice shall state whether the Change of Control Offer would be permitted under the Indenture or other indebtedness of the Company, and if permitted, such notice shall contain all instructions and materials necessary to enable such holders to tender Convertible Preferred Stock pursuant to the Change of Control Offer. If the Change of Control Offer would be permitted under the Indenture or other indebtedness of the Company, such notice shall state: (A) that a Change of Control has occurred, that the Change of Control Offer is being made pursuant to 33 44 this paragraph (h) and that all Convertible Preferred Stock validly tendered and not withdrawn will be accepted for payment; (B) the purchase price (including the amount of accrued dividends, if any) and the purchase date (which must be no earlier than 30 days nor later than 75 days from the date such notice is mailed, other than as may be required by law) (the "Change of Control Payment Date"); (C) that any shares of Convertible Preferred Stock not tendered will continue to accrue dividends; (D) that, unless the Company defaults in making payment therefor, any share of Convertible Preferred Stock accepted for payment pursuant to the Change of Control Offer shall cease to accrue dividends after the Change of Control Payment Date; (E) that holders electing to have any shares of Convertible Preferred Stock purchased pursuant to a Change of Control Offer will be required to surrender such shares of Convertible Preferred Stock, properly endorsed for transfer, together with such other customary documents as the Company and the Transfer Agent may reasonably request to the Transfer Agent and registrar for the Convertible Preferred Stock at the address specified in the notice prior to the close of business on the Business Day prior to the Change of Control Payment Date; (F) that holders will be entitled to withdraw their election if the Company receives, not later than five Business Days prior to the Change of Control Payment Date, a telegram, a telex, facsimile transmission or letter setting forth the name of the holder, the number of shares of Convertible Preferred Stock the holder delivered for purchase and a statement that such holder is withdrawing his election to have such shares of Convertible Preferred Stock purchased; (G) that holders whose shares of Convertible Preferred Stock are purchased only in part will be issued a new certificate representing the unpurchased shares of Convertible Preferred Stock; and 34 45 (H) the circumstances and relevant facts regarding such Change of Control. If the Change of Control Offer would not be permitted under the Indenture or other indebtedness of the Company, such notice shall state the Conversion Price as adjusted pursuant to paragraph (g)(ix). (iv) The Company will comply with any tender offer rules under the Exchange Act which then may be applicable, including Rules 13e-4 and 14e-1, in connection with any offer required to be made by the Company to repurchase the shares of Convertible Preferred Stock as a result of a Change of Control. To the extent that the provisions of any securities laws or regulations conflict with provisions of this Certificate of Designation, the Company shall comply with the applicable securities laws and regulations and shall not be deemed to have breached its obligations under this Certificate of Designation by virtue thereof. (v) On the Change of Control Payment Date the Company shall (A) accept for payment the shares of Convertible Preferred Stock validly tendered pursuant to the Change of Control Offer, (B) pay to the holders of shares so accepted the purchase price therefor in cash and (C) cancel and retire each surrendered certificate. Unless the Company defaults in the payment for the shares of Convertible Preferred Stock tendered pursuant to the Change of Control Offer, dividends will cease to accrue with respect to the shares of Convertible Preferred Stock tendered and all rights of holders of such tendered shares will terminate, except for the right to receive payment therefor, on the Change of Control Payment Date. (vi) To accept the Change of Control Offer, the holder of a share of Convertible Preferred Stock shall deliver, on or before the 10th day prior to the Change of Control Payment Date, written notice to the Company (or an agent designated by the Company for such purpose) of such holder's acceptance, together with certificates evidencing the shares of Convertible Preferred Stock with respect to which the Change of Control Offer is being accepted, duly endorsed for transfer. (i) Reissuance of Convertible Preferred Stock. Shares of Convertible Preferred Stock that have been issued and reacquired in any manner, including shares purchased or redeemed or exchanged, shall not be reissued as shares of 35 46 Convertible Preferred Stock and shall (upon compliance with any applicable provisions of the laws of Delaware) have the status of authorized and unissued shares of Preferred Stock undesignated as to series and may be redesignated and reissued as part of any series of Preferred Stock; provided, however, that so long as any shares of Convertible Preferred Stock are outstanding, any issuance of such shares must be in compliance with the terms hereof. (j) Business Day. If any payment, redemption or exchange shall be required by the terms hereof to be made on a day that is not a Business Day, such payment, redemption or exchange shall be made on the immediately succeeding Business Day. (k) Limitation on Mergers and Asset Sales. The Company may not consolidate with or merge with or into, or convey, transfer or lease all or substantially all its assets to, any person unless: (1) the successor, transferee or lessee (if not the Company) is organized and existing under the laws of the United States of America or any State thereof or the District of Columbia and the Convertible Preferred Stock shall be converted into or exchanged for and shall become shares of such successor, transferee or lessee, having in respect of such successor, transferee or lessee substantially the same powers, preference and relative participating, optional or other special rights and the qualifications, limitations or restrictions thereon, that the Convertible Preferred Stock had immediately prior to such transaction; and (2) the Company delivers to the Transfer Agent an Officers' Certificate and an Opinion of Counsel stating that such consolidation, merger or transfer complies with this Certificate of Designation. The successor, transferee or lessee will be the successor company. (l) Certificates. (i) Form and Dating. The Convertible Preferred Stock and the Transfer Agent's certificate of authentication shall be substantially in the form of Exhibit A, which is hereby incorporated in and expressly made a part of this Certificate of Designation. The Convertible Preferred Stock certificate may have notations, legends or endorsements required by law, stock exchange rule, agreements to which the Company is subject, if any, or usage (provided that any such notation, legend or endorsement is in a form acceptable to the Company). Each Convertible Preferred Stock certificate shall be dated the date of its authentication. The terms of the Convertible 36 47 Preferred Stock certificate set forth in Exhibit A are part of the terms of this Certificate of Designation. (A) Global Convertible Preferred Stock. The Convertible Preferred Stock sold in reliance on Rule 144A shall be issued initially in the form of one or more fully registered global certificates with the global securities legend and restricted securities legend set forth in Exhibit A hereto (the "Global Convertible Preferred Stock"), which shall be deposited on behalf of the purchasers represented thereby with the Transfer Agent, at its New York office, as custodian for DTC (or with such other custodian as DTC may direct), and registered in the name of DTC or a nominee of DTC, duly executed by the Company and authenticated by the Transfer Agent as hereinafter provided. The number of shares of Convertible Preferred Stock represented by Global Convertible Preferred Stock may from time to time be increased or decreased by adjustments made on the records of the Transfer Agent and DTC or its nominee as hereinafter provided. (B) Book-Entry Provisions. In the event Global Convertible Preferred Stock is deposited with or on behalf of DTC, the Company shall execute and the Transfer Agent shall authenticate and deliver initially one or more Global Convertible Preferred Stock certificates that (a) shall be registered in the name of DTC for such Global Convertible Preferred Stock or the nominee of DTC and (b) shall be delivered by the Transfer Agent to DTC or pursuant to DTC's instructions or held by the Transfer Agent as custodian for DTC. Members of, or participants in, DTC ("Agent Members") shall have no rights under this Certificate of Designation with respect to any Global Convertible Preferred Stock held on their behalf by DTC or by the Transfer Agent as the custodian of DTC or under such Global Convertible Preferred Stock, and DTC may be treated by the Company, the Transfer Agent and any agent of the Company or the Transfer Agent as the absolute owner of such Global Convertible Preferred Stock for all purposes whatsoever. Notwithstanding the foregoing, nothing herein shall prevent the Company, the Transfer Agent or any agent of the Company or the Transfer Agent from giving effect to any written certification, proxy or other authorization furnished by DTC or impair, as between DTC and its Agent Members, the operation of customary practices of DTC governing the 37 48 exercise of the rights of a holder of a beneficial interest in any Global Convertible Preferred Stock. (C) Certificated Convertible Preferred Stock. Convertible Preferred Stock initially sold to certain "accredited investors" (as defined in Rule 501(a)(1), (2), (3), (4), (5), (6) or (7) under the Securities Act) or sold in offshore transactions pursuant to Regulation S under the Securities Act will be issued in fully registered certificated form ("Certificated Convertible Preferred Stock"). Except as provided in this paragraph (l)(i) or in paragraph (l)(iii), owners of beneficial interests in Global Convertible Preferred Stock will not be entitled to receive physical delivery of Certificated Convertible Preferred Stock. After a transfer of any Convertible Preferred Stock during the period of the effectiveness of a Shelf Registration Statement with respect to such Convertible Preferred Stock, all requirements pertaining to legends on such Convertible Preferred Stock will cease to apply, the requirements requiring that any such Convertible Preferred Stock issued to Holders be issued in global form will cease to apply, and Certificated Convertible Preferred Stock without legends will be available to the transferee of the Holder of such Convertible Preferred Stock upon exchange of such transferring Holder's Convertible Preferred Stock or directions to transfer such Holder's interest in the Global Convertible Preferred Stock, as applicable. (ii) Execution and Authentication. Two Officers shall sign the Convertible Preferred Stock for the Company by manual or facsimile signature. The Company's seal shall be impressed, affixed, imprinted or reproduced on the Convertible Preferred Stock and may be in facsimile form. If an Officer whose signature is on Convertible Preferred Stock no longer holds that office at the time the Transfer Agent authenticates the Convertible Preferred Stock, the Convertible Preferred Stock shall be valid nevertheless. A Convertible Preferred Stock shall not be valid until an authorized signatory of the Transfer Agent manually signs the certificate of authentication on the Convertible Preferred Stock. The signature shall be conclusive evidence 38 49 that the Convertible Preferred Stock has been authenticated under this Certificate of Designation. The Transfer Agent shall authenticate and deliver 1,000,000 shares of Convertible Preferred Stock for original issue upon a written order of the Company signed by two Officers or by an Officer and either an Assistant Treasurer or an Assistant Secretary of the Company. In addition, the Transfer Agent shall authenticate and deliver, from time to time, Additional Shares for original issue upon order of the Company signed by two Officers or by an Officer or either an Assistant Treasurer or Assistant Secretary of the Company. Such orders shall specify the number of shares of Convertible Preferred Stock to be authenticated and the date on which the original issue of Convertible Preferred Stock is to be authenticated. The Transfer Agent may appoint an authenticating agent reasonably acceptable to the Company to authenticate the Convertible Preferred Stock. Unless limited by the terms of such appointment, an authenticating agent may authenticate Convertible Preferred Stock whenever the Transfer Agent may do so. Each reference in this Certificate of Designation to authentication by the Transfer Agent includes authentication by such agent. An authenticating agent has the same rights as the Transfer Agent or agent for service of notices and demands. (iii) Transfer and Exchange. (A) Transfer and Exchange of Certificated Convertible Preferred Stock. When Certificated Convertible Preferred Stock is presented to the Transfer Agent with a request to register the transfer of such Certificated Convertible Preferred Stock or to exchange such Certificated Convertible Preferred Stock for an equal number of shares of Certificated Convertible Preferred Stock of other authorized denominations, the Transfer Agent shall register the transfer or make the exchange as requested if its reasonable requirements for such transaction are met; provided, however, that the Certificated Convertible Preferred Stock surrendered for transfer or exchange: (1) shall be duly endorsed or accompanied by a written instrument of transfer in form reasonably satisfactory to the Company and the Transfer Agent, duly executed by the Holder thereof or its attorney duly authorized in writing; and 39 50 (2) in the case of Transfer Restricted Securities that are Certificated Convertible Preferred Stock, are being transferred or exchanged pursuant to an effective registration statement under the Securities Act or pursuant to clause (I), (II) or (III) below, and are accompanied by the following additional information and documents, as applicable: (I) if such Transfer Restricted Securities are being delivered to the Transfer Agent by a Holder for registration in the name of such Holder, without transfer, a certification from such Holder to that effect in substantially the form of Exhibit C hereto; or (II) if such Transfer Restricted Securities are being transferred to the Company or to a "qualified institutional buyer" ("QIB") in accordance with Rule 144A under the Securities Act or pursuant to an exemption from registration in accordance with Rule 144 or Regulation S under the Securities Act, a certification to that effect (in substantially the form of Exhibit C hereto); or (III) if such Transfer Restricted Securities are being transferred to an "accredited investor" as described in Rule 501(a)(1), (2), (3), (4), (5), (6) or (7) under the Securities Act that is acquiring the Securities for its own account, or for the account of such an accredited investor, in each case in a minimum principal amount of $100,000 for investment purposes and not with a view to, or for offer or sale in connection with, any distribution in violation of the Securities Act, or in reliance on another exemption from the registration requirements of the Securities Act: a certification to that effect in substantially the form of Exhibit C hereto, and if the Company or the Transfer Agent so requests, evidence reasonably satisfactory to them as to the compliance with the restrictions set forth in the legend set forth in paragraph (l)(iii)(G)(1) below. (B) Restrictions on Transfer of Certificated Convertible Preferred Stock for a Beneficial Interest in Global Convertible Preferred Stock. Certificated Convertible Preferred Stock may not be exchanged for a 40 51 beneficial interest in Global Convertible Preferred Stock except upon satisfaction of the requirements set forth below. Upon receipt by the Transfer Agent of Certificated Convertible Preferred Stock, duly endorsed or accompanied by appropriate instruments of transfer, in form satisfactory to the Transfer Agent, together with: (1) if such Certificated Convertible Preferred Stock is a Transfer Restricted Security, certification that such Certificated Convertible Preferred Stock is being transferred to a QIB in accordance with Rule 144A under the Securities Act; and (2) whether or not such Certificated Convertible Preferred Stock is a Transfer Restricted Security, written instructions directing the Transfer Agent to make, or to direct DTC to make, an adjustment on its books and records with respect to such Global Convertible Preferred Stock to reflect an increase in the number of shares of Convertible Preferred Stock represented by the Global Convertible Preferred Stock, then the Transfer Agent shall cancel such Certificated Convertible Preferred Stock and cause, or direct DTC to cause, in accordance with the standing instructions and procedures existing between DTC and the Transfer Agent, the number of shares of Convertible Preferred Stock represented by the Global Convertible Preferred Stock to be increased accordingly. If no Global Convertible Preferred Stock is then outstanding, the Company shall issue and the Transfer Agent shall authenticate, upon written order of the Company in the form of an Officers' Certificate, a new Global Convertible Preferred Stock representing the appropriate number of shares. (C) Transfer and Exchange of Global Convertible Preferred Stock. The transfer and exchange of Global Convertible Preferred Stock or beneficial interests therein shall be effected through DTC, in accordance with this Certificate of Designation (including applicable restrictions on transfer set forth herein, if any) and the procedures of DTC therefor. (D) Transfer of a Beneficial Interest in Global Convertible Preferred Stock for a Certificated Convertible Preferred Stock. 41 52 (1) Any person having a beneficial interest in Convertible Preferred Stock that is being transferred or exchanged pursuant to an effective registration statement under the Securities Act or pursuant to clause (I), (II) or (III) below may upon request, and if accompanied by the information specified below, exchange such beneficial interest for Certificated Convertible Preferred Stock representing the same number of shares of Convertible Preferred Stock. Upon receipt by the Transfer Agent of written instructions or such other form of instructions as is customary for DTC from DTC or its nominee on behalf of any person having a beneficial interest in Global Convertible Preferred Stock and upon receipt by the Transfer Agent of a written order or such other form of instructions as is customary for DTC or the person designated by DTC as having such a beneficial interest in a Transfer Restricted Security only, and upon the following additional information and documents (all of which may be submitted by facsimile): (I) if such beneficial interest is being transferred to the person designated by DTC as being the owner of a beneficial interest in Global Convertible Preferred Stock, a certification from such person to that effect (in substantially the form of Exhibit C hereto); (II) if such beneficial interest is being transferred to a QIB in accordance with Rule 144A under the Securities Act or pursuant to an exemption from registration in accordance with Rule 144 or Regulation S under the Securities Act, a certification to that effect (in substantially the form of Exhibit C hereto); or (III) if such beneficial interest is being transferred to an "accredited investor" as described in Rule 501(a)(1), (2), (3), (4), (5), (6) or (7) under the Securities Act that is acquiring the security for its own account, or for the account of such an accredited investor, in each case in a minimum principal amount of $100,000 for investment purposes and not with a view to, or for offer or sale in connection with, any distribution in violation of the Securities Act, or in reliance on another exemption from the registration requirements of the Securities Act, a 42 53 certification to that effect from the transferor (in substantially the form of Exhibit C hereto), and if the Company or the Transfer Agent so requests, evidence reasonably satisfactory to them as to the compliance with the restrictions set forth in the legend set forth in paragraph (l)(iii)(G)(1) below; then, the Transfer Agent or DTC, at the direction of the Transfer Agent, will cause, in accordance with the standing instructions and procedures existing between DTC and the Transfer Agent, the number of shares of Convertible Preferred Stock represented by Global Convertible Preferred Stock to be reduced on its books and records and, following such reduction, the Company will execute and the Transfer Agent will authenticate and deliver to the transferee Certificated Convertible Preferred Stock. (2) Certificated Convertible Preferred Stock issued in exchange for a beneficial interest in a Global Convertible Preferred Stock pursuant to this paragraph (l)(iii)(D) shall be registered in such names and in such authorized denominations as DTC, pursuant to instructions from its direct or indirect participants or otherwise, shall instruct the Transfer Agent. The Transfer Agent shall deliver such Certificated Convertible Preferred Stock to the persons in whose names such Convertible Preferred Stock are so registered in accordance with the instructions of DTC. (E) Restrictions on Transfer and Exchange of Global Convertible Preferred Stock. Notwithstanding any other provisions of this Certificate of Designation (other than the provisions set forth in paragraph (l)(iii)(F)), Global Convertible Preferred Stock may not be transferred as a whole except by DTC to a nominee of DTC or by a nominee of DTC to DTC or another nominee of DTC or by DTC or any such nominee to a successor depository or a nominee of such successor depository. (F) Authentication of Certificated Convertible Preferred Stock. If at any time: (1) DTC notifies the Company that DTC is unwilling or unable to continue as depository for the Global Convertible Preferred Stock and a successor depository for the Global Convertible Preferred Stock is not appointed by the Company within 90 days after delivery of such notice; 43 54 (2) DTC ceases to be a clearing agency registered under the Exchange Act; (3) there shall have occurred and be continuing a Voting Rights Triggering Event; or (4) the Company, in its sole discretion, notifies the Transfer Agent in writing that it elects to cause the issuance of Certificated Convertible Preferred Stock under this Certificate of Designation, then the Company will execute, and the Transfer Agent, upon receipt of a written order of the Company signed by two Officers or by an Officer and either an Assistant Treasurer or an Assistant Secretary of the Company requesting the authentication and delivery of Certificated Convertible Preferred Stock to the persons designated by the Company, will authenticate and deliver Certificated Convertible Preferred Stock equal to the number of shares of Convertible Preferred Stock represented by the Global Convertible Preferred Stock, in exchange for such Global Convertible Preferred Stock. (G) Legend. (1) Except as permitted by the following paragraph (2), each certificate evidencing the Global Convertible Preferred Stock and the Certificated Convertible Preferred Stock (and all Convertible Preferred Stock issued in exchange therefor or substitution thereof) shall bear a legend in substantially the following form: "THE SECURITY EVIDENCED HEREBY (OR ITS PREDECESSOR) (AND THE COMMON STOCK INTO WHICH THIS SECURITY IS CONVERTIBLE) WAS ORIGINALLY ISSUED IN A TRANSACTION EXEMPT FROM REGISTRATION UNDER SECTION 5 OF THE UNITED STATES SECURITIES ACT OF 1933 (THE "SECURITIES ACT") AND MAY NOT BE OFFERED, SOLD, PLEDGED OR OTHERWISE TRANSFERRED IN ABSENCE OF SUCH REGISTRATION OR AN APPLICABLE EXEMPTION THEREFROM. EACH PURCHASER OF THE SECURITY EVIDENCED HEREBY (OR THE COMMON STOCK INTO WHICH THIS SECURITY IS CONVERTIBLE) IS HEREBY NOTIFIED THAT THE SELLER MAY BE RELYING ON THE EXEMPTION FROM THE PROVISIONS OF SECTION 5 OF THE SECURITIES ACT PROVIDED BY RULE 144A THEREUNDER. THE HOLDER OF THE SECURITY EVIDENCED HEREBY (AND OF THE COMMON STOCK INTO WHICH THIS SECURITY IN CONVERTIBLE) AGREES FOR THE 44 55 BENEFIT OF THE COMPANY THAT (A) SUCH SECURITY (AND THE COMMON STOCK INTO WHICH THIS SECURITY IS CONVERTIBLE) MAY BE RESOLD, PLEDGED OR OTHERWISE TRANSFERRED, ONLY (1) TO A PERSON WHO THE SELLER REASONABLY BELIEVES IS A QUALIFIED INSTITUTIONAL BUYER WITHIN THE MEANING OF RULE 144A UNDER THE SECURITIES ACT PURCHASING FOR ITS OWN ACCOUNT OR FOR THE ACCOUNT OF A QUALIFIED INSTITUTIONAL BUYER IN A TRANSACTION MEETING THE REQUIREMENTS OF RULE 144A, (2) IN AN OFFSHORE TRANSACTION COMPLYING WITH RULE 904 OF REGULATION S UNDER THE SECURITIES ACT, (3) PURSUANT TO AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT PROVIDED BY RULE 144 THEREUNDER (IF AVAILABLE), (4) TO THE COMPANY OR (5) PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT AND (B) IN ACCORDANCE WITH ALL APPLICABLE SECURITIES LAWS OF THE STATES OF THE UNITED STATES." (2) Upon any sale or transfer of a Transfer Restricted Security (including any Transfer Restricted Security represented by Global Convertible Preferred Stock) pursuant to Rule 144 under the Securities Act or an effective registration statement under the Securities Act: (I) in the case of any Transfer Restricted Security that is a Certificated Convertible Preferred Stock, the Transfer Agent shall permit the Holder thereof to exchange such Transfer Restricted Security for a Certificated Convertible Preferred Stock that does not bear the legend set forth above and rescind any restriction on the transfer of such Transfer Restricted Security; and (II) in the case of any Transfer Restricted Security that is represented by a Global Convertible Preferred Stock, the Transfer Agent shall permit the Holder thereof to exchange such Transfer Restricted Security for a Certificated Convertible Preferred Stock Security that does not bear the legend set forth above and rescind any restriction on the transfer of such Transfer Restricted Security, if the Holder's request for such exchange was made in reliance on Rule 144 and the Holder certifies to that effect in writing to the Transfer Agent (such certification to be in the form set forth on the reverse of the Transfer Restricted Security). 45 56 (H) Cancellation or Adjustment of Global Convertible Preferred Stock. At such time as all beneficial interests in Global Convertible Preferred Stock have either been exchanged for Certificated Convertible Preferred Stock, redeemed, repurchased or canceled, such Global Convertible Preferred Stock shall be returned to DTC for cancellation or retained and canceled by the Transfer Agent. At any time prior to such cancellation, if any beneficial interest in Global Convertible Preferred Stock is exchanged for Certificated Convertible Preferred Stock, redeemed, repurchased or canceled, the number of shares of Convertible Preferred Stock represented by such Global Convertible Preferred Stock shall be reduced and an adjustment shall be made on the books and records of the Transfer Agent with respect to such Global Convertible Preferred Stock, by the Transfer Agent or DTC, to reflect such reduction. (I) Obligations with Respect to Transfers and Exchanges of Convertible Preferred Stock. (1) To permit registrations of transfers and exchanges, the Company shall execute and the Transfer Agent shall authenticate Certificated Convertible Preferred Stock and Global Convertible Preferred Stock as required pursuant to the provisions of this paragraph (iii). (2) All Certificated Convertible Preferred Stock and Global Convertible Preferred Stock issued upon any registration of transfer or exchange of Certificated Convertible Preferred Stock or Global Convertible Preferred Stock shall be the valid obligations of the Company, entitled to the same benefits under this Certificate of Designation as the Certificated Convertible Preferred Stock or Global Convertible Preferred Stock surrendered upon such registration of transfer or exchange. (3) Prior to due presentment for registration of transfer of any shares of Convertible Preferred Stock, the Transfer Agent and the Company may deem and treat the person in whose name such shares of Convertible Preferred Stock are registered as the absolute owner of such Convertible Preferred Stock and neither the Transfer Agent nor the Company shall be affected by notice to the contrary. (4) No service charge shall be made to a Holder for any registration of transfer or exchange upon surrender of any Convertible Preferred Stock 46 57 Certificate at the office of the Transfer Agent maintained for that purpose. However, the Company may require payment of a sum sufficient to cover any tax or other governmental charge that may be imposed in connection with any registration of transfer or exchange of Convertible Preferred Stock Certificates. (5) Upon any sale or transfer of shares of Convertible Preferred Stock (including any Convertible Preferred Stock represented by a Global Convertible Preferred Stock Certificate) pursuant to an effective registration statement under the Securities Act, pursuant to Rule 144 under the Securities Act or pursuant to an opinion of counsel reasonably satisfactory to the Company that no legend is required: (A) in the case of any Certificated Convertible Preferred Stock, the Transfer Agent shall permit the holder thereof to exchange such Convertible Preferred Stock for Certificated Convertible Preferred Stock that does not bear the legend set forth in paragraph (iii)(G) above and rescind any restriction on the transfer of such Convertible Preferred Stock; and (B) in the case of any Global Convertible Preferred Stock, such Convertible Preferred Stock shall not be required to bear the legend set forth in paragraph (iii)(G) above but shall continue to be subject to the provisions of paragraph (iii)(D) hereof; provided, however, that with respect to any request for an exchange of Convertible Preferred Stock that is represented by Global Convertible Preferred Stock for Certificated Convertible Preferred Stock that does not bear the legend set forth in paragraph (iii)(G) above in connection with a sale or transfer thereof pursuant to Rule 144 (and based upon an opinion of counsel if the Company so requests), the Holder thereof shall certify in writing to the Transfer Agent that such request is being made pursuant to Rule 144 (such certification to be substantially in the form of Exhibit C hereto). 47 58 (iv) Replacement Certificates. If a mutilated Convertible Preferred Stock certificate is surrendered to the Transfer Agent or if the Holder of a Convertible Preferred Stock certificate claims that the Convertible Preferred Stock certificate has been lost, destroyed or wrongfully taken, the Company shall issue and the Transfer Agent shall countersign a replacement Convertible Preferred Stock certificate if the reasonable requirements of the Transfer Agent and of Section 8-405 of the Uniform Commercial Code as in effect in the State of New York are met. If required by the Transfer Agent or the Company, such Holder shall furnish an indemnity bond sufficient in the judgment of the Company and the Transfer Agent to protect the Company and the Transfer Agent from any loss which either of them may suffer if a Convertible Preferred Stock certificate is replaced. The Company and the Transfer Agent may charge the Holder for their expenses in replacing a Convertible Preferred Stock certificate. (v) Temporary Certificates. Until definitive Convertible Preferred Stock certificates are ready for delivery, the Company may prepare and the Transfer Agent shall countersign temporary Convertible Preferred Stock certificates. Temporary Convertible Preferred Stock certificates shall be substantially in the form of definitive Convertible Preferred Stock certificates but may have variations that the Company considers appropriate for temporary Convertible Preferred Stock certificates. Without unreasonable delay, the Company shall prepare and the Transfer Agent shall countersign definitive Convertible Preferred Stock certificates and deliver them in exchange for temporary Convertible Preferred Stock certificates. (vi) Cancellation. (A) In the event the Company shall purchase or otherwise acquire Certificated Convertible Preferred Stock, the same shall thereupon be delivered to the Transfer Agent for cancellation. (B) At such time as all beneficial interests in Global Convertible Preferred Stock have either been exchanged for Certificated Convertible Preferred Stock, redeemed, repurchased or canceled, such Global Convertible Preferred Stock shall thereupon be delivered to the Transfer Agent for cancellation. (C) The Transfer Agent and no one else shall cancel and destroy all Convertible Preferred Stock certificates surrendered for transfer, exchange, replacement 48 59 or cancellation and deliver a certificate of such destruction to the Company unless the Company directs the Transfer Agent to deliver canceled Convertible Preferred Stock certificates to the Company. The Company may not issue new Convertible Preferred Stock certificates to replace Convertible Preferred Stock certificates to the extent they evidence Convertible Preferred Stock which the Company has purchased or otherwise acquired. (m) Additional Rights of Holders. In addition to the rights provided to Holders under this Certificate of Designation, Holders shall have the rights set forth in the Registration Rights Agreement. (o) Certain Definitions. As used in this Certificate of Designation, the following terms shall have the following meanings (and (1) terms defined in the singular have comparable meanings when used in the plural and vice versa, (2) "including" means including without limitation, (3) "or" is not exclusive and (4) an accounting term not otherwise defined has the meaning assigned to it in accordance with United States generally accepted accounting principles as in effect on the Issue Date and all accounting calculations will be determined in accordance with such principles), unless the content otherwise requires: "Business Day" means each day which is not a Legal Holiday. "capital stock" of any person means any and all shares, interests, rights to purchase, warrants, options, participation or other equivalents of or interests in (however designated) equity of such person, including any Preferred Stock, but excluding any debt securities convertible into or exchangeable for such equity. 49 60 "Change in Control" or "Change of Control" means: (i) the sale, lease, transfer, conveyance other disposition (other than by way of merger or consolidation), in one or a series of related transactions, of all or substantially all of the assets of the Company and its Subsidiaries taken as a whole to any "person" (as such term is used in Section 13(d)(3) of the Exchange Act), (ii) the adoption of a plan relating to the liquidation or dissolution of the Company, (iii) the consummation of any transaction (including, without limitation, any merger or consolidation) the result of which is that any "person" (as defined above), (other than officers, directors and stockholders of the Company and their affiliates on the date of this Certificate of Designation), becomes the beneficial owner (as determined in accordance with Rules 13d-3 and 13d-5 under the Exchange Act), directly or indirectly, of more than 50% of the voting stock of the Company or (iv) the first day on which a majority of the members of the board of directors (excluding the directors elected pursuant to paragraph (f) are not Continuing Directors. "Closing Bid Price" means on any day the last reported bid price on such day, or in case no bid takes place on such day, the average of the reported closing bid and asked prices, in each case on the Nasdaq National Market or, if the Common Stock is not quoted on such system, on the principal national securities exchange on which such stock is listed or admitted to trading, or if not listed or admitted to trading on any national securities exchange, the average of the closing bid and asked prices as furnished by any independent registered broker-dealer firm, selected by the Company for that purpose. "Continuing Directors" means, as of any date of determination, any member of the Board of Directors who (i) was a member of such Board of Directors on the date of this Certificate of Designation or (ii) was nominated for election or elected to such Board of Directors with the approval of a majority of the Continuing Directors who were members of such Board of Directors at the time of such nomination or election. "Default" means any event which is, or after notice or passage of time or both would be, a Voting Rights Triggering Event. "DTC" means The Depository Trust Company. 50 61 "Exchange Act" means the Securities Exchange Act of 1934, as amended. "Holders" means the registered holders from time to time of the Convertible Preferred Stock. "Indenture" means the Indenture dated as of October 5, 1995 between the Company and IBJ Schroder Bank & Trust Company. "Issue Date" means the date on which the Convertible Preferred Stock is initially issued. "Legal Holiday" means a Saturday, a Sunday or a day on which banking institutions are not required to be open in the State of New York. "Liquidated Damages" means, with respect to any share of Convertible Preferred Stock, the Additional Dividends then accrued, if any, on such share pursuant to paragraph (c). "Officer" means the Chairman of the Board of Directors, the President, any Vice President, the Treasurer, the Secretary or any Assistant Secretary of the Company. "Officers' Certificate" means a certificate signed by two Officers. "Opinion of Counsel" means a written opinion from legal counsel who is acceptable to the Transfer Agent. The counsel may be an employee of or counsel to the Company or the Transfer Agent. "person" means any individual, corporation, partnership, joint venture, limited liability company, association, joint-stock company, trust, unincorporated organization, government or any agency or political subdivision thereof or any other entity. "Preferred Stock", as applied to the Capital Stock of any corporation, means Capital Stock of any class or classes (however designated) which is preferred as to the payment of dividends, or as to the distribution of assets upon any voluntary or involuntary liquidation or dissolution of such corporation, over shares of Capital Stock of any other class of such corporation. 51 62 "Registration Rights Agreement" means the Registration Rights Agreement dated March 25, 1997 among the Company, Credit Suisse First Boston Corporation and Dillon, Read & Co. Inc. with respect to the Convertible Preferred Stock. "SEC" or "Commission" means the Securities and Exchange Commission. "Securities Act" means the Securities Act of 1933. "Series 3 Preferred Stock" means the 10% Junior Series 3 Preferred Stock of the Company. "Shelf Registration Statement" means a shelf registration statement filed with the SEC to cover resales of Transfer Restricted Securities by holders thereof, as required by the Registration Rights Agreement. "Subsidiary" means any corporation, association, partnership, limited liability company or other business entity of which more than 50% of the total voting power of shares of capital stock or other interests entitled (without regard to the occurrence of any contingency) to vote in the election of directors, managers or trustees thereof is at the time owned or controlled, directly or indirectly, by the Company, the Company and one or more Subsidiaries or one or more Subsidiaries and any partnership the sole general partner or the managing partner of which the Company or any Subsidiary or the only general partners of which are the Company and one or more Subsidiaries or one or more Subsidiaries. "Trading Day" means, in respect of any securities exchange or securities market, each Monday, Tuesday, Wednesday, Thursday and Friday, other than any day on which securities are not traded on the applicable securities exchange or in the applicable securities market. "Transfer Agent" means the transfer agent for the Convertible Preferred Stock appointed by the Company, which initially shall be ChaseMellon Shareholder Services, L.L.C. "Transfer Restricted Securities" means each share of Convertible Preferred Stock (or the shares of Common Stock into which such share of Convertible Preferred Stock is convertible) (including additional shares of Convertible Preferred Stock issued in payment of dividends on the 52 63 Convertible Preferred Stock, if any, as permitted in accordance with the terms hereof) until (i) the date on which such security has been effectively registered under the Securities Act and disposed of in accordance with the Shelf Registration Statement or (ii) the date on which such security is distributed to the public pursuant to Rule 144 under the Securities Act or is saleable pursuant to Rule 144(k) under the Securities Act (or any successor rule thereof) or would be saleable pursuant to Rule 144(k) under the Securities Act had it not been held by, or had it never been held by, an affiliate of the Company. "Voting Stock" of a corporation means all classes of Capital Stock of such corporation then outstanding and normally entitled to vote in the election of directors. 53 64 IN WITNESS WHEREOF, said IXC Communications, Inc., has caused this Certificate of Designation to be signed by John J. Willingham, its Senior Vice President and Chief Financial Officer, this 31st day of March, 1997. IXC COMMUNICATIONS, INC., by /s/ John J. Willingham ---------------------------------- Name: John J. Willingham Title: Senior Vice President and Chief Financial Officer 54 65 EXHIBIT A FORM OF CONVERTIBLE PREFERRED STOCK FACE OF SECURITY [THE SECURITY EVIDENCED HEREBY (OR ITS PREDECESSOR) (AND THE COMMON STOCK INTO WHICH THIS SECURITY IS CONVERTIBLE) WAS ORIGINALLY ISSUED IN A TRANSACTION EXEMPT FROM REGISTRATION UNDER SECTION 5 OF THE UNITED STATES SECURITIES ACT OF 1933 (THE "SECURITIES ACT") AND MAY NOT BE OFFERED, SOLD, PLEDGED OR OTHERWISE TRANSFERRED IN ABSENCE OF SUCH REGISTRATION OR AN APPLICABLE EXEMPTION THEREFROM. EACH PURCHASER OF THE SECURITY EVIDENCED HEREBY (OR THE COMMON STOCK INTO WHICH THIS SECURITY IS CONVERTIBLE) IS HEREBY NOTIFIED THAT THE SELLER MAY BE RELYING ON THE EXEMPTION FROM THE PROVISIONS OF SECTION 5 OF THE SECURITIES ACT PROVIDED BY RULE 144A THEREUNDER. THE HOLDER OF THE SECURITY EVIDENCED HEREBY (AND OF THE COMMON STOCK INTO WHICH THIS SECURITY IS CONVERTIBLE) AGREES FOR THE BENEFIT OF THE COMPANY THAT (A) SUCH SECURITY (AND THE COMMON STOCK INTO WHICH THIS SECURITY IS CONVERTIBLE) MAY BE RESOLD, PLEDGED OR OTHERWISE TRANSFERRED, ONLY (1) TO A PERSON WHO THE SELLER REASONABLY BELIEVES IS A QUALIFIED INSTITUTIONAL BUYER WITHIN THE MEANING OF RULE 144A UNDER THE SECURITIES ACT PURCHASING FOR ITS OWN ACCOUNT OR FOR THE ACCOUNT OF A QUALIFIED INSTITUTIONAL BUYER IN A TRANSACTION MEETING THE REQUIREMENTS OF RULE 144A, (2) IN AN OFFSHORE TRANSACTION COMPLYING WITH RULE 904 OF REGULATION S UNDER THE SECURITIES ACT, (3) PURSUANT TO AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT PROVIDED BY RULE 144 THEREUNDER (IF AVAILABLE), (4) TO THE COMPANY OR (5) PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT AND (B) IN ACCORDANCE WITH ALL APPLICABLE SECURITIES LAWS OF THE STATES OF THE UNITED STATES.]* [UNLESS THIS CERTIFICATE IS PRESENTED BY AN AUTHORIZED REPRESENTATIVE OF THE DEPOSITORY TRUST COMPANY, A NEW YORK CORPORATION ("DTC"), NEW YORK, NEW YORK, TO THE COMPANY OR ITS AGENT FOR REGISTRATION OF TRANSFER, EXCHANGE OF PAYMENT, AND ANY CERTIFICATE ISSUED IS REGISTERED IN THE NAME OF CEDE & CO. OR SUCH OTHER NAME AS IS REQUESTED BY AN AUTHORIZED REPRESENTATIVE OF DTC (AND ANY PAYMENT IS MADE TO CEDE & CO., OR TO SUCH OTHER ENTITY AS IS REQUESTED BY AN AUTHORIZED REPRESENTATIVE OF DTC) ANY TRANSFER, PLEDGE OR OTHER USE HEREOF FOR VALUE OR OTHERWISE BY OR TO ANY PERSON __________________________________ * Subject to removal upon registration under the Securities Act of 1933 or otherwise when the security shall no longer be a restricted security. 66 IS WRONGFUL INASMUCH AS THE REGISTERED OWNER HEREOF, CEDE & CO. HAS AN INTEREST HEREIN.]** [TRANSFERS OF THIS GLOBAL SECURITY SHALL BE LIMITED TO TRANSFERS IN WHOLE, BUT NOT IN PART, TO NOMINEES OF DTC OR TO A SUCCESSOR THEREOF OR SUCH SUCCESSOR'S NOMINEE AND TRANSFERS OF PORTIONS OF THIS GLOBAL SECURITY SHALL BE LIMITED TO TRANSFERS MADE IN ACCORDANCE WITH THE RESTRICTIONS SET FORTH IN THE CERTIFICATE OF DESIGNATION REFERRED TO BELOW.]** IN CONNECTION WITH ANY TRANSFER, THE HOLDER WILL DELIVER TO THE REGISTRAR AND TRANSFER AGENT SUCH CERTIFICATES AND OTHER INFORMATION AS SUCH REGISTRAR AND TRANSFER AGENT MAY REASONABLY REQUIRE TO CONFIRM THAT THE TRANSFER COMPLIES WITH THE FOREGOING RESTRICTIONS. Number of Shares of Convertible Certificate Number Preferred Stock [ ] [ ] CUSIP NO.: [ ] 7 1/4% Junior Convertible Preferred Stock Due 2007 (par value $0.01) (liquidation preference $100 per share of Convertible Preferred Stock) of IXC Communications, Inc. IXC Communications, Inc., a Delaware corporation (the "Company"), hereby certifies that [ ] (the "Holder") is the registered owner of fully paid and non-assessable preferred securities of the Company designated the 7 1/4% Junior Convertible Preferred Stock Due 2007 (par value $0.01) (liquidation preference $100 per share of Convertible Preferred Stock) (the "Convertible Preferred Stock"). The shares of Convertible Preferred Stock are transferable on the books and records of the Registrar, in person or by a duly authorized attorney, upon surrender of this certificate duly endorsed and in proper form for transfer. The designation, rights, privileges, __________________________________ ** Subject to removal if not a global security. 2 67 restrictions, preferences and other terms and provisions of the Convertible Preferred Stock represented hereby are issued and shall in all respects be subject to the provisions of the Certificate of Designation dated March [ ], 1997, as the same may be amended from time to time (the "Certificate of Designation"). Capitalized terms used herein but not defined shall have the meaning given them in the Certificate of Designation. The Company will provide a copy of the Certificate of Designation to a Holder without charge upon written request to the Company at its principal place of business. Reference is hereby made to select provisions of the Convertible Preferred Stock set forth on the reverse hereof, and to the Certificate of Designation, which select provisions and the Certificate of Designation shall for all purposes have the same effect as if set forth at this place. Upon receipt of this certificate, the Holder is bound by the Certificate of Designation and is entitled to the benefits thereunder. Unless the Transfer Agent's Certificate of Authentication hereon has been properly executed, these shares of Convertible Preferred Stock shall not be entitled to any benefit under the Certificate of Designation or be valid or obligatory for any purpose. IN WITNESS WHEREOF, the Company has executed this certificate this [ ] day of [ ], [ ]. IXC COMMUNICATIONS, INC., By: ------------------------------- Name: Title: [Seal] By: ------------------------------- Name: Title: 3 68 TRANSFER AGENT'S CERTIFICATE OF AUTHENTICATION This is one of the Convertible Preferred Stock referred to in the within mentioned Certificate of Designation. Dated: [ ], [ ] CHASEMELLON SHAREHOLDER SERVICES, L.L.C. as Transfer Agent, By: --------------------------- Authorized Signatory 4 69 REVERSE OF SECURITY Dividends on each share of Convertible Preferred Stock shall be payable at a rate per annum set forth in the face hereof or as provided in the Certificate of Designation (including Additional Dividends). The shares of Convertible Preferred Stock shall be redeemable as provided in the Certificate of Designation. The shares of Convertible Preferred Stock shall be convertible into the Company's Common Stock in the manner and according to the terms set forth in the Certificate of Designation. As required under Delaware law, the Company shall furnish to any Holder upon request and without charge, a full summary statement of the designations, voting rights preferences, limitations and special rights of the shares of each class or series authorized to be issued by the Company so far as they have been fixed and determined and the authority of the Board of Directors to fix and determine the designations, voting rights, preferences, limitations and special rights of the class and series of shares of the Company. 5 70 ASSIGNMENT FOR VALUE RECEIVED, the undersigned assigns and transfers the shares of Convertible Preferred Stock evidenced hereby to: ------------------------------ - ------------------------------------------------------------------------------- (Insert assignee's social security or tax identification number) - ------------------------------------------------------------------------------- (Insert address and zip code of assignee) and irrevocably appoints: - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- agent to transfer the shares of Convertible Preferred Stock evidenced hereby on the books of the Transfer Agent and Registrar. The agent may substitute another to act for him or her. Date: ------------------------------ Signature: ------------------------- (Sign exactly as your name appears on the other side of this Convertible Preferred Stock Certificate) Signature Guarantee:*** ------------------------------------------------------ - ------------------------ *** (Signature must be guaranteed by an "eligible guarantor institution" that is, a bank, stockbroker, savings and loan association or credit union meeting the requirements of the Registrar, which requirements include membership or participation in the Securities Transfer Agents Medallion Program ("STAMP") or such other "signature guarantee program" as may be determined by the Registrar in addition to, or in substitution for, STAMP, all in accordance with the Securities Exchange Act of 1934, as amended.) 6 71 EXHIBIT B NOTICE OF CONVERSION (To be Executed by the Registered Holder in order to Convert the Convertible, Preferred Stock) The undersigned hereby irrevocably elects to convert (the "Conversion") shares of 7 1/4% Junior Convertible Preferred Stock (the "Convertible Preferred Stock"), represented by stock certificate No(s). _______________ (the "Convertible Preferred Stock Certificates") into shares of common stock ("Common Stock") of IXC Communications, Inc. (the "Company") according to the conditions of the Certificate of Designations, Preferences and Rights of the Convertible Preferred Stock (the "Certificate of Designation"), as of the date written below. If shares are to be issued in the name of a person other than the undersigned, the undersigned will pay all transfer taxes payable with respect thereto and is delivering herewith such certificates. No fee will be charged to the holder for any conversion, except for transfer taxes, if any. A copy of each Convertible Preferred Stock Certificate is attached hereto (or evidence of loss, theft or destruction thereof). The undersigned represents and warrants that all offers and sales by the undersigned of the shares of Common Stock issuable to the undersigned upon conversion of the Convertible Preferred Stock shall be made pursuant to registration of the Common Stock under the Securities Act of 1933 (the "Act"), or pursuant to any exemption from registration under the Act. Any holder, upon the exercise of its conversion rights in accordance with the terms of the Certificate of Designation and the Convertible Preferred Stock, agrees to be bound by the terms of the Registration Rights Agreement. Capitalized terms used but not defined herein shall have the meanings ascribed thereto in or pursuant to the Certificate of Designation. Date of Conversion: ________________________ Applicable Conversion Price: _______________ Number of shares of Convertible Preferred Stock to be Converted: ____________ 72 Number of shares of Common Stock to be Issued: _________________ Signature: _________________________________ Name: ______________________________________ Address:** _________________________________ Fax No.: ___________________________________ - ----------------------------- * The Company is not required to issue shares of Common Stock until the original Convertible Preferred Stock Certificate(s) (or evidence of loss, theft or destruction thereof) to be converted are received by the Company or its Transfer Agent. The Company shall issue and deliver shares of Common Stock to an overnight courier not later than three business days following receipt of the original Convertible Preferred Stock Certificate(s) to be converted. ** Address where shares of Common Stock and any other payments or certificates shall be sent by the Company. 2 73 EXHIBIT C CERTIFICATE TO BE DELIVERED UPON EXCHANGE OR REGISTRATION OF TRANSFER OF CONVERTIBLE PREFERRED STOCK Re: 7 1/4% Junior Convertible Preferred Stock Due 2007 (the "Convertible Preferred Stock") of IXC Communications, Inc. (the "Company") This Certificate relates to ____ shares of Convertible Preferred Stock held in [ ] */ book-entry or [ ] */ definitive form by _______________ (the "Transferor"). The Transferor*: [ ] has requested the Transfer Agent by written order to deliver in exchange for its beneficial interest in the Convertible Preferred Stock held by the depository shares of Convertible Preferred Stock in definitive, registered form equal to its beneficial interest in such Convertible Preferred Stock (or the portion thereof indicated above); or [ ] has requested the Transfer Agent by written order to exchange or register the transfer of Convertible Preferred Stock. In connection with such request and in respect of such Convertible Preferred Stock, the Transferor does hereby certify that the Transferor is familiar with the Certificate of Designation relating to the above captioned Convertible Preferred Stock and that the transfer of this Convertible Preferred Stock does not require registration under the Securities Act of 1933 (the "Securities Act") because */: [ ] Such Convertible Preferred Stock is being acquired for the Transferor's own account without transfer. [ ] Such Convertible Preferred Stock is being transferred to the Company. [ ] Such Convertible Preferred Stock is being transferred (i) to a qualified institutional buyer (as defined in Rule 144A under the Securities Act), in reliance on Rule 144A or (ii) pursuant to an exemption from registration in accordance with Rule 904 under the Securities Act (and, in the case of clause (ii), based on an opinion of counsel if the Company so requests and together __________________________________ */Please check applicable box. 74 with a certification in substantially the form of Exhibit E to the Certificate of Designation). [ ] Such Convertible Preferred Stock is being transferred to an accredited investor within the meaning of Rule 501(a)(1), (2), (3), (4), (5), (6) or (7) under the Securities Act pursuant to a private placement exemption from the registration requirements of the Securities Act (together with a certification in substantially the form of Exhibit D to the Certificate of Designation). [ ] Such Convertible Preferred Stock is being transferred in reliance on and in compliance with another exemption from the registration requirements of the Securities Act (and based on an opinion of counsel if the Company so requests). ------------------------------- [INSERT NAME OF TRANSFEROR] Date: By ------------------------------- ------------------------------- 2 75 EXHIBIT D FORM OF CERTIFICATE TO BE DELIVERED BY ACCREDITED INVESTORS _____________, _____ ChaseMellon Shareholder Services, L.L.C. Attention: [ ] Ladies and Gentlemen: In connection with our proposed purchase of certain 7 1/4% Junior Convertible Preferred Stock Due 2007 (the "Convertible Preferred Stock"), of IXC Communications, Inc., a Delaware corporation (the "Company"), we represent that: (i) we are an "accredited investor" within the meaning of Rule 501(a)(1),(2),(3),(4),(5),(6) or (7) under the Securities Act of 1933 (the "Securities Act") (an "Accredited Investor"), or an entity in which all of the equity owners are Accredited Investors; (ii) any purchase of Convertible Preferred Stock will be for our own account or for the account of one or more other Accredited Investors as to which we exercise sole investment discretion; (iii) we have such knowledge and experience in financial and business matters that we are capable of evaluating the merits and risks of purchasing Convertible Preferred Stock and we and any accounts for which we are acting are able to bear the economic risks of our or their investment; (iv) we are not acquiring Convertible Preferred Stock with a view to any distribution thereof in a transaction that would violate the Securities Act or the securities laws of any State of the United States or any other applicable jurisdiction; provided that the disposition of our property and the property of any accounts for which we are acting as fiduciary shall remain at all times without our control; and (v) we acknowledge that we have had access to such financial and other information, and have been afforded the opportunity to ask such questions of representatives of the Company and receive answers 76 thereto, as we deem necessary in connection with our decision to purchase Convertible Preferred Stock. We understand that the Convertible Preferred Stock has not been registered under the Securities Act, and we agree, on our own behalf and on behalf of each account for which we acquire any Convertible Preferred Stock, that such Convertible Preferred Stock may be offered, resold, pledged or otherwise transferred only (i) to a person whom we reasonably believe to be a qualified institutional buyer (as defined in Rule 144A under the Securities Act) in a transaction meeting the requirements of Rule 144A, in a transaction meeting the requirements of Rule 144 under the Securities Act, outside the United States to a foreign person in a transaction meeting the requirements of Rule 904 under the Securities Act (and, unless such transfer occurs in a transaction meeting the requirements of Rule 144A, based upon an opinion of counsel, if the Company so requests), (ii) to the Company or (iii) pursuant to an effective registration statement, and, in each case, in accordance with any applicable securities laws of any State of the United States or any other applicable jurisdiction. We understand that the registrar will not be required to accept for registration of transfer any shares of Convertible Preferred Stock, except upon presentation of evidence satisfactory to the Company that the foregoing restrictions on transfer have been complied with. We further understand that the Convertible Preferred Stock purchased by us will bear a legend reflecting the substance of this paragraph. We further agree to provide to any person acquiring any of the Convertible Preferred Stock from us a notice advising such person that resales of the Convertible Preferred Stock are restricted as stated herein. We acknowledge that you, the Company and others will rely upon our confirmations, acknowledgements and agreements set forth herein, and we agree to notify you promptly in writing if any of our representations or warranties herein ceases to be accurate and complete. 2 77 THIS LETTER SHALL BE GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF NEW YORK. Very truly yours, ------------------------------- (Name of Transferee) By: --------------------------- Name: Title: Address: 3 78 EXHIBIT E FORM OF CERTIFICATE TO BE DELIVERED IN CONNECTION WITH TRANSFERS PURSUANT TO REGULATION S __________, ____ ChaseMellon Shareholder Services, L.L.C. Attention: [ ] Ladies and Gentlemen: In connection with our proposed sale of certain 7 1/4% Junior Convertible Preferred Stock Due 2007 (the "Convertible Preferred Stock") of IXC Communications, Inc., a Delaware corporation ("the "Company"), we represent that: (i) the offer of the Convertible Preferred Stock was not made to a person in the United States; (ii) at the time the buy order was originated, the transferee was outside the United States or we and any person acting on our behalf reasonably believed that the transferee was outside the United States; (iii) no directed selling efforts have been made by us in the United States in contravention of the requirements of Rule 903(b) or Rule 904(b) of Regulation S under the Securities Act of 1933 (the "Securities Act"), as applicable; and (iv) the transaction is not part of a plan or scheme by us to evade the registration requirements of the Securities Act. You and the Company are entitled to rely upon this letter and you are irrevocably authorized to produce this letter or a copy hereof to any interested party in any administrative or legal proceedings or official inquiry with 79 respect to the matters covered hereby. Terms used in this certificate have the meanings set forth in Regulation S. Very truly yours, ---------------------------------- (Name of Transferor) By: ------------------------------- Name: Title: Address: 2 80 IXC COMMUNICATIONS, INC. CERTIFICATE OF DESIGNATION OF THE POWERS, PREFERENCES AND RELATIVE, PARTICIPATING, OPTIONAL AND OTHER SPECIAL RIGHTS OF 12 1/2% JUNIOR EXCHANGEABLE PREFERRED STOCK DUE 2009 AND 12 1/2% SERIES B JUNIOR EXCHANGEABLE PREFERRED STOCK DUE 2009 AND QUALIFICATIONS, LIMITATIONS AND RESTRICTIONS THEREOF Pursuant to Section 151 of the General Corporation Law of the State of Delaware IXC Communications, Inc. (the "Company"), a corporation organized and existing under the General Corporation Law of the State of Delaware, does hereby certify that (i) pursuant to authority conferred upon the board of directors of the Company (the "Board of Directors") by its Restated Certificate of Incorporation (hereinafter referred to as the "Restated Certificate of Incorporation"), and pursuant to the provisions of Sections 141(c)(2) and 151 of the General Corporation Law of the State of Delaware, said Board of Directors is authorized to issue Preferred Stock of the Company in one or more series and has authorized a committee of the Board of Directors (the "Placement Committee") to adopt the resolution set forth below and (ii) the Placement Committee duly approved and adopted the following resolution on August 14, 1997 (the "Resolution"): RESOLVED that, pursuant to the authority vested in the Board of Directors by its Restated Certificate of Incorporation, and the authority vested by such Board of Directors in a committee of the Board (the "Placement Committee"), all the members of which are members of such Board, the Placement Committee does hereby create, authorize and provide for the issuance of 12 1/2% Junior Exchangeable Preferred Stock Due 2009, par value $0.01 per share, with a stated value of $1000 per share, initially consisting of up to 450,000 shares and 12 1/2% Series B Junior Exchangeable Preferred Stock Due 2009, par value $0.01 per share, with a stated value of $1,000 81 2 per share, initially consisting of up to 450,000 shares (collectively, the "Exchangeable Preferred Stock") having the designation, preferences, relative, participating, optional and other special rights and the qualifications, limitations and restrictions thereof that are set forth in the Restated Certificate of Incorporation and in this Resolution as follows: (a) Designation. There is hereby created out of the authorized and unissued shares of Preferred Stock of the Company (i) a series of Preferred Stock designated as the "12 1/2% Junior Exchangeable Preferred Stock Due 2009" (the "Initial Exchangeable Preferred Stock") and (ii) a series of Preferred Stock designated as the "12 1/2% Series B Junior Exchangeable Preferred Stock Due 2009" (the "Series B Stock"). The number of shares constituting the Initial Exchangeable Preferred Stock shall be 450,000, and the number of shares constituting the Series B Stock shall be 450,000. The Initial Exchangeable Preferred Stock and the Series B Stock are referred to as the Exchangeable Preferred Stock. The liquidation preference of the Exchangeable Preferred Stock shall be $1000 per share (the "Liquidation Preference"). (b) Rank. The Exchangeable Preferred Stock will, with respect to dividend rights and rights on liquidation, winding-up and dissolution, rank (i) senior to all classes of common stock and to each other class of Capital Stock or series of Preferred Stock established hereafter by the Board of Directors of the Company, the terms of which do not expressly provide that it ranks senior to, or on a parity with, the Exchangeable Preferred Stock as to dividend rights and rights on liquidation, winding-up and dissolution of the Company (collectively referred to, together with all classes of common stock of the Company, as "Junior Stock"); (ii) on a parity with each share of Convertible Preferred Stock now or hereafter outstanding and on a parity with each other class of Capital Stock or series of Preferred Stock established hereafter by the Board of Directors of the 82 3 Company, the terms of which expressly provide that such class or series will rank on a parity with the Exchangeable Preferred Stock as to dividend rights and rights on liquidation, winding-up and dissolution (collectively referred to as "Parity Stock"); and (iii) junior to each share of Series 3 Preferred Stock now or hereafter outstanding and junior to each class of Capital Stock or series of Preferred Stock established hereafter by the Board of Directors of the Company, the terms of which hereafter established classes or series expressly provide that such class or series will rank senior to the Exchangeable Preferred Stock as to dividend rights or rights on liquidation, winding-up and dissolution of the Company (collectively referred to as "Senior Stock"). All claims of the holders of the Exchangeable Preferred Stock, including claims with respect to dividend payments, redemption payments, mandatory repurchase payments or rights upon liquidation, winding-up or dissolution, shall rank junior to the claims of the holders of any debt of the Company and all other creditors of the Company. (c) Dividends. (i) Holders of the outstanding shares of Exchangeable Preferred Stock will be entitled to receive, when, as and if declared by the Board of Directors of the Company, out of funds legally available therefor, cumulative preferential dividends on each share of the Exchangeable Preferred Stock at a rate per annum equal to 12 1/2% of the Liquidation Preference of such share payable quarterly (each such quarterly period being herein called a "Dividend Period"). In addition to the dividends described in the preceding sentence, holders of outstanding shares of Exchangeable Preferred Stock will be entitled to additional dividends (the "Additional Dividends"), when, as and if declared by the Board of Directors of the Company, out of funds legally available therefor, with respect to the shares of Exchangeable Preferred Stock, which Additional Dividends shall accrue as follows if any of the following events occur (each such event in clauses (A), (B) and (C) below being herein called a "Registration Default"): (A) if by October 6, 1997, neither the Exchange Offer Registration Statement nor the Shelf Registration Statement has been filed with the SEC; (B) if by January 19, 1998, neither the Registered Exchange Offer is consummated nor the Shelf 83 4 Registration Statement declared effective by the SEC; or (C) if after January 19, 1998 and after either the Exchange Offer Registration Statement or the Shelf Registration Statement is declared effective, such Registration Statement thereafter ceases to be effective (in each case except as permitted below) in connection with resales of Exchangeable Preferred Stock in accordance with and during the periods specified herein. Additional Dividends shall accrue on the shares of Exchangeable Preferred Stock from and including the date on which any such Registration Default shall occur, to but excluding the date on which all such Registration Defaults have been cured, at a rate of .50% per annum. A Registration Default referred to in clause (C) of paragraph (c)(i) shall be deemed not to have occurred and be continuing in relation to a Registration Statement or the related prospectus if (i) such Registration Default has occurred solely as a result of (x) the filing of a post-effective amendment to the Registration Statement to incorporate annual audited financial information with respect to the Company where such post-effective amendment is not yet effective and needs to be declared effective to permit Holders to use the related prospectus or (y) other material events with respect to the Company that would need to be described in the Registration Statement or the related prospectus and (ii) in the case of clause (y), the Company proceeds promptly and in good faith to amend or supplement the Registration Statement and related prospectus to describe such events unless the Company has determined in good faith that there are material legal or commercial impediments in doing so; provided, however, that in any case if such Registration Default occurs for a continuous period in excess of 45 days, Additional Dividends shall be payable in accordance with the immediately preceding paragraphs of this paragraph (c)(i) from the day such Registration Default initially occurs until such Registration Default is cured. Any amounts of Additional Dividends due pursuant to clauses (A), (B) or (C) of this paragraph (c)(i) or pursuant to the proviso contained in the preceding sentence will be payable on the regular dividend payment dates with 84 5 respect to the Exchangeable Preferred Stock and on the same terms and conditions and subject to the same limitations as pertain at such time for the payment of regular dividends. The amount of Additional Dividends will be determined by multiplying the applicable Additional Dividends rate by the aggregate liquidation preference of the outstanding shares of Exchangeable Preferred Stock, multiplied by a fraction, the numerator of which is the number of days such Additional Dividend rate was applicable during such period (determined on the basis of a 360-day year comprised of twelve 30-day months), and the denominator of which is 360. All dividends on the Exchangeable Preferred Stock, including Additional Dividends, to the extent accrued, shall be cumulative, whether or not earned or declared, on a daily basis from the Issue Date or, in the case of additional shares of Exchangeable Preferred Stock issued in payment of a dividend, from the date of issuance of such additional shares of Exchangeable Preferred Stock, and shall be payable quarterly in arrears on each February 15, May 15, August 15 and November 15 (each, a "Dividend Payment Date"), commencing on November 15, 1997, to holders of record on the February 1, May 1, August 1 and November 1 immediately preceding the relevant Dividend Payment Date. Any dividend on the Exchangeable Preferred Stock payable pursuant to this paragraph (c)(i) on or prior to February 15, 2001 shall be, at the option of the Company, payable (1) in cash or (2) through the issuance of a number of additional shares (including fractional shares) of Exchangeable Preferred Stock (the "Additional Shares") equal to the dividend amount divided by the Liquidation Preference of such Additional Shares. With respect to dividends accrued after February 15, 2001, all dividends shall be payable in cash. Any dividend accruing after February 15, 2001 that is not paid in cash on the relevant Dividend Payment Date shall accrue interest at a rate per annum equal to the then applicable dividend rate per annum from such Dividend Payment Date to the date of payment of such dividend. Such interest, if any, shall be payable in cash on each Dividend Payment Date. Any accrued interest not paid on a Dividend Payment Date shall accrue interest on such interest pursuant to this paragraph. Any references herein to the payment of 85 6 accrued and unpaid dividends shall be deemed to include any such interest. (ii) In the event the Company notifies the holders of Exchangeable Preferred Stock of its election not to make a Change of Control Offer (as defined in paragraph (h)(i)) pursuant to paragraph (h)(iii), then, within 60 days of the occurrence of the applicable Change of Control, holders of a majority of the outstanding shares of the Exchangeable Preferred Stock will designate an Independent Financial Advisor to determine, within 20 days of such designation, in the opinion of such firm, the appropriate dividend rate that the Exchangeable Preferred Stock should bear so that, after such reset, the Exchangeable Preferred Stock would have a market value of 101% of the Liquidation Preference; provided, however, that no such reset shall be required to be made if such Independent Financial Advisor determines that the Exchangeable Preferred Stock has a market value of 101% or greater. If within 5 days of the designation of an Independent Financial Advisor by the Holders, the Company determines that such Independent Financial Advisor is reasonably unacceptable to the Company, the Company shall designate a second Independent Financial Advisor to determine, within 15 days of such designation, in its opinion, such an appropriate reset dividend rate for the Exchangeable Preferred Stock. In the event that the two Independent Financial Advisors cannot agree, within 25 days of the designation of an Independent Financial Advisor by the Holders of a majority of the outstanding shares of the Exchangeable Preferred Stock, on the appropriate reset dividend rate, the two Independent Financial Advisors shall, within 10 days of such 25th day, designate a third Independent Financial Advisor, which, within 15 days of designation, will determine, in its opinion, an appropriate reset dividend rate which is between the two rates selected by the first two Independent Financial Advisors. Upon the determination of the reset rate, the Exchangeable Preferred Stock shall accrue and accumulate dividends at the reset rate as of the date of occurrence of the Change of Control; provided, however, that the reset rate shall in no event be less than 12 1/2% per annum or greater than 15% per annum. The reasonable fees and expenses including reasonable fees and expenses of legal counsel, if any, and customary 86 7 indemnification of each of the three above-referenced Independent Financial Advisors, shall be borne by the Company. (iii) All dividends paid with respect to shares of the Exchangeable Preferred Stock pursuant to paragraph (c)(i) shall be paid pro rata to the holders entitled thereto. (iv) No dividend may be declared or paid or set apart for the payment of dividends by the Company on any Parity Stock for any period unless full cumulative dividends in respect of each Dividend Period ending on or before such period shall have been or contemporaneously are declared and paid (or are deemed declared and paid) in full or declared and, if payable in cash, a sum in cash sufficient for such payment set apart for such payment on the Exchangeable Preferred Stock. If full dividends are not so paid, the Exchangeable Preferred Stock will share dividends pro rata with the Parity Stock. (v) The Company will not (A) declare, pay or set apart funds for the payment of any dividend or other distribution with respect to any Junior Stock or (B) redeem, purchase or otherwise acquire for consideration any Junior Stock through a sinking fund or otherwise, unless (1) all accrued and unpaid dividends with respect to the Exchangeable Preferred Stock and any Parity Stock at the time such dividends are payable have been paid or funds have been set apart for payment of such dividends and (2) sufficient funds have been paid or set apart for the payment of the dividend for the current dividend period with respect to the Exchangeable Preferred Stock and any Parity Stock. As used herein, the term "dividend" does not include dividends payable solely in shares of Junior Stock on Junior Stock or in options, warrants or rights to holders of Junior Stock to subscribe or purchase any Junior Stock. (vi) Dividends on account of arrears for any past Dividend Period and dividends in connection with any optional redemption may be declared and paid at any time, without reference to any regular Dividend Payment Date, to holders of record on such date, not more than 45 days prior 87 8 to the payment thereof, as may be fixed by the Board of Directors of the Company. (vii) Dividends payable on the Exchangeable Preferred Stock for any period other than a Dividend Period shall be computed on the basis of a 360-day consisting year of twelve 30-day months and the actual number of days elapsed in the period for which payable. Dividends payable on the Exchangeable Preferred Stock for a full Dividend Period will be computed by dividing the per annum dividend rate by four. (d) Liquidation Preference. (i) Upon any voluntary or involuntary liquidation, dissolution or winding-up of the Company, holders of Exchangeable Preferred Stock will be entitled to be paid, out of the assets of the Company available for distribution to its stockholders, the Liquidation Preference of the outstanding shares of Exchangeable Preferred Stock, plus, without duplication, an amount in cash equal to all accumulated and unpaid dividends (whether or not earned or declared and including Additional Dividends, if any,) thereon to the date fixed for liquidation, dissolution or winding-up (including an amount equal to a prorated dividend for the period from the last Dividend Payment Date to the date fixed for liquidation, dissolution or winding-up that would have been payable had the Exchangeable Preferred Stock been the subject of an Optional Redemption on such date) before any distribution is made on any Junior Stock. If, upon any voluntary or involuntary liquidation, dissolution or winding up of the Company, the amounts payable with respect to the Exchangeable Preferred Stock and all Parity Stock are not paid in full, the Exchangeable Preferred Stock and the Parity Stock will share equally and ratably (in proportion to the respective amounts that would be payable on such shares of Exchangeable Preferred Stock and the Parity Stock, respectively, if all amounts payable thereon had been paid in full) in any distribution of assets of the Company to which each is entitled. After payment of the full amount of the Liquidation Preference of the outstanding shares of Exchangeable Preferred Stock (and, if applicable, an amount equal to a prorated dividend), the holders of shares of Exchangeable Preferred Stock will not be entitled to any 88 9 further participation in any distribution of assets of the Company. (ii) For the purposes of this paragraph (d), neither the sale, conveyance, exchange or transfer (for cash, shares of stock, securities or other consideration) of all or substantially all of the property or assets of the Company nor the consolidation or merger of the Company with or into one or more other entities shall be deemed to be a liquidation, dissolution or winding-up of the Company. (e) Redemption. (i) Optional Redemption. (A) Except as set forth in clause (B) below, the Exchangeable Preferred Stock shall not be redeemable at the option of the Company prior to August 15, 2002. On or after August 15, 2002, each share of the Exchangeable Preferred Stock may be redeemed (subject to the legal availability of funds therefor) at any time, in whole or in part, at the option of the Company, at the redemption prices (expressed as a percentage of the Liquidation Preference of such share) set forth below, plus, without duplication, an amount in cash equal to all accrued and unpaid dividends to the date fixed for redemption (the "Optional Redemption Date") (including an amount in cash equal to a prorated dividend for the period from the Dividend Payment Date immediately prior to the Optional Redemption Date) (the "Optional Redemption Price"), if redeemed during the 12-month period beginning August 15 of each of the years set forth below:
Year in which redemption occurs Percentage ------ ---------- 2002.................................. 106.250% 2003.................................. 105.000 2004.................................. 103.750 2005.................................. 102.500 2006.................................. 101.250 2007 and thereafter................... 100.000
(B) At any time and from time to time prior to August 15, 2000, the Company may redeem in the aggregate up to 35% of the outstanding shares of Exchangeable Preferred 89 10 Stock with the proceeds of one or more Public Equity Offerings at a redemption price (expressed as a percentage of the Liquidation Preference thereof) of 112.500% plus accrued and unpaid dividends, if any, to the redemption date (including an amount in cash equal to a prorated dividend for any partial dividend period); provided, however, that at least $195 million aggregate Liquidation Preference of the Exchangeable Preferred Stock remains outstanding after each such redemption. (C) In the event of a redemption of only a portion of the then outstanding shares of Exchangeable Preferred Stock, the Company shall effect such redemption on a pro rata basis, except that the Company may redeem all of the shares held by holders of fewer than 100 shares (or all of the shares held by holders who would hold less than 100 shares as a result of such redemption), as may be determined by the Company. (ii) Mandatory Redemption. Each share of the Exchangeable Preferred Stock (if not earlier redeemed or converted) shall be subject to mandatory redemption in whole (to the extent of lawfully available funds therefor) on August 15, 2009 (the "Mandatory Redemption Date") at a price equal to 100% of the Liquidation Preference of such share, plus, without duplication, all accrued and unpaid dividends thereon (including an amount equal to a prorated dividend thereon from the immediately preceding Dividend Payment Date to the Mandatory Redemption Date), if any, to the Mandatory Redemption Date (the "Mandatory Redemption Price"). (iii) Procedure for Redemption. (A) On and after the Optional Redemption Date or the Mandatory Redemption Date, as the case may be (the "Redemption Date"), unless the Company defaults in the payment of the applicable redemption price, dividends will cease to accumulate on shares of Exchangeable Preferred Stock called for redemption and all rights of holders of such shares will terminate except for the right to receive the Optional Redemption Price or the Mandatory Redemption Price, as the case may be, without interest; provided, however, that if a notice of redemption shall have been given as provided in subparagraph (iii)(B) and the funds necessary for redemption (including an amount 90 11 in respect of all dividends that will accrue to the Redemption Date) shall have been segregated and irrevocably set apart by the Company, in trust for the benefit of the holders of the shares called for redemption, then dividends shall cease to accumulate on the Redemption Date on the shares to be redeemed and, at the close of business on the day on which such funds are segregated and set apart, the holders of the shares to be redeemed shall, with respect to the shares to be redeemed, cease to be stockholders of the Company and shall be entitled only to receive the Optional Redemption Price or the Mandatory Redemption Price, as the case may be, for such shares without interest from the Redemption Date. (B) With respect to a redemption pursuant to paragraph (e)(i) or (e)(ii), the Company will send a written notice of redemption by first class mail to each holder of record of shares of Exchangeable Preferred Stock, not fewer than 30 days nor more than 60 days prior to the Redemption Date at its registered address (the "Redemption Notice"); provided, however, that no failure to give such notice nor any deficiency therein shall affect the validity of the procedure for the redemption of any shares of Exchangeable Preferred Stock to be redeemed except as to the holder or holders to whom the Company has failed to give said notice or except as to the holder or holders whose notice was defective. The Redemption Notice shall state: (1) whether the redemption is pursuant to paragraph (e)(i) or (e)(ii) hereof; (2) the Optional Redemption Price or the Mandatory Redemption Price, as the case may be; (3) whether all or less than all the outstanding shares of the Exchangeable Preferred Stock are to be redeemed and the total number of shares of the Exchangeable Preferred Stock being redeemed; (4) the Redemption Date; (5) that the holder is to surrender to the Company, in the manner, at the place or places and at 91 12 the price designated, his certificate or certificates representing the shares of Exchangeable Preferred Stock to be redeemed; and (6) that dividends on the shares of the Exchangeable Preferred Stock to be redeemed shall cease to accumulate on such Redemption Date unless the Company defaults in the payment of the Optional Redemption Price or the Mandatory Redemption Price, as the case may be. (C) Each holder of Exchangeable Preferred Stock shall surrender the certificate or certificates representing such shares of Exchangeable Preferred Stock to the Company, duly endorsed (or otherwise in proper form for transfer, as determined by the Company), in the manner and at the place designated in the Redemption Notice, and on the Redemption Date the full Optional Redemption Price or Mandatory Redemption Price, as the case may be, for such shares shall be payable in cash to the person whose name appears on such certificate or certificates as the owner thereof, and each surrendered certificate shall be canceled and retired. In the event that less than all of the shares represented by any such certificate are redeemed, a new certificate shall be issued representing the unredeemed shares. (f) Voting Rights. (i) The holders of Exchangeable Preferred Stock, except as otherwise required under Delaware law or as set forth in paragraphs (ii) and (iii) below, shall not be entitled to vote on any matter required or permitted to be voted upon by the stockholders of the Company. (ii) (A) If (1) dividends on the Exchangeable Preferred Stock are in arrears and unpaid for six or more Dividend Periods (whether or not consecutive) (a "Dividend Default"); (2) the Company fails to redeem the Exchangeable Preferred Stock on August 15, 2009, or fails to otherwise discharge any redemption obligation with respect to the Exchangeable Preferred Stock; (3) a breach or violation of any of the provisions set forth under paragraph (l) (Certain Additional Provisions) occurs and the breach or violation continues for a period of 30 days or more after the Company 92 13 receives notice thereof specifying the default from the holders of at least 25% of the shares of Exchangeable Preferred Stock then outstanding; or (4) the Company fails to pay at final maturity (giving effect to any applicable grace period) the principal amount of any Indebtedness of the Company or any Significant Subsidiary (other than any Permitted PSINet Non-Recourse Debt) or the final maturity of any such Indebtedness is accelerated because of a default and the total amount of such Indebtedness unpaid or accelerated exceeds $5 million, then the number of directors constituting the Board of Directors of the Company will, subject to paragraph (f)(ii)(E), be increased by two and the Holders of the then outstanding shares of Exchangeable Preferred Stock (together with the holders of Parity Stock upon which like rights have been conferred and are exercisable), voting separately and as a class, shall have the right and power to elect such two additional directors. Each such event described in clauses (1),(2),(3) or (4) above is a "Voting Rights Triggering Event". (B) The voting rights set forth in paragraph (f)(ii)(A) above will continue until such time as (x) in the case of a Dividend Default, all dividends in arrears on the Exchangeable Preferred Stock are paid in full in cash or (y) in all other cases, any failure, breach or default giving rise to such Voting Rights Triggering Event is remedied or waived by the Holders of at least a majority of the outstanding shares of Exchangeable Preferred Stock then outstanding, at which time the term of any directors elected pursuant to the provisions of paragraph (f)(ii)(A) above (subject to the right of holders of any other preferred stock to elect directors) shall terminate forthwith and the number of directors constituting the Board of Directors shall be decreased by two (until the occurrence of any subsequent Voting Rights Triggering Event). At any time after voting power to elect directors shall have become vested and be continuing in the holders of Exchangeable Preferred Stock (together with the holders of Parity Stock upon which like rights have been conferred and are exercisable) pursuant to paragraph (f)(ii)(A) hereof, or if vacancies shall exist in the offices of directors elected by such holders, a proper officer of the Company may, and upon the written request of the holders of record of at least 25% 93 14 of the shares of Exchangeable Preferred Stock then outstanding or the holders of 25% of the shares of Parity Stock then outstanding upon which like rights have been confirmed and are exercisable addressed to the secretary of the Company shall, call a special meeting of the Holders of Exchangeable Preferred Stock and the holders of such Parity Stock for the purpose of electing the directors which such holders are entitled to elect pursuant to the terms hereof; provided, however, that no such special meeting shall be called if the next annual meeting of stockholders of the Company is to be held within 60 days after the voting power to elect directors shall have become vested, in which case such meeting shall be deemed to have been called for such next annual meeting. If such meeting shall not be called by a proper officer of the Company within 20 days after personal service to the secretary of the Company at its principal executive offices, then the Holders of record of at least 25% of the outstanding shares of Exchangeable Preferred Stock or the holders of 25% of the shares of Parity Stock upon which like rights have been confirmed and are exercisable may designate in writing one of their members to call such meeting at the expense of the Company, and such meeting may be called by the person so designated upon the notice required for the annual meetings of stockholders of the Company and shall be held at the place for holding the annual meetings of stockholders. Any holder of Exchangeable Preferred Stock or such Parity Stock so designated shall have, and the Company shall provide, access to the lists of holders of Exchangeable Preferred Stock and the holders of such Parity Stock to be called pursuant to the provisions hereof. If no special meeting of the Holders of Exchangeable Preferred Stock and the holders of such Parity Stock is called as provided in this paragraph (f)(ii), then such meeting shall be deemed to have been called for the next annual meeting of stockholders of the Company or special meeting of the holders of any other capital stock of the Company. (C) At any meeting held for the purposes of electing directors at which the Holders of Exchangeable Preferred Stock (together with the holders of Parity Stock upon which like rights have been conferred and are exercisable) shall have the right, voting together as a 94 15 separate class, to elect directors as aforesaid, the presence in person or by proxy of the holders of at least a majority in voting power of the outstanding shares of Exchangeable Preferred Stock (and such Parity Stock) shall be required to constitute a quorum thereof. (D) Any vacancy occurring in the office of a director elected by the Holders of Exchangeable Preferred Stock (and such Parity Stock) may be filled by the remaining director elected by the Holders of Exchangeable Preferred Stock (and such Parity Stock) unless and until such vacancy shall be filled by the Holders of Exchangeable Preferred Stock (and such Parity Stock). (E) In the event that an event occurs at any time which results in the holders of any Parity Stock having voting rights to elect directors to the Board of Directors, holders of Exchangeable Preferred Stock shall, whether or not such event otherwise constitutes a Voting Rights Triggering Event pursuant to paragraph (f)(ii)(A), have the voting rights set forth in paragraphs (f)(ii)(A) and (f)(ii)(B), and such event shall be deemed (for purposes of this paragraph (f) only) to constitute a Voting Rights Triggering Event. In addition, in the event that during a time in which directors elected by the holders of Exchangeable Preferred Stock pursuant to this paragraph (f)(ii) are serving on the Board of Directors ("Previously- Elected Directors") an event occurs which results in holders of Parity Stock having voting rights to elect (voting together with the holders of Exchangeable Preferred Stock) at least two directors to the Board of Directors, the holders of Exchangeable Preferred Stock shall vote together with the holders of such Parity Stock to elect such new directors, and upon the election of the new directors the Previously-Elected Directors shall (unless such Previously- Elected Directors are elected as new directors) cease to serve on the Board of Directors. (iii) (A) So long as any shares of the Exchangeable Preferred Stock are outstanding, the Company will not authorize, create or increase the authorized amount of any class or series of Senior Stock without the affirmative vote or consent of holders of at least 95 16 two-thirds of the shares of Exchangeable Preferred Stock then outstanding, voting or consenting, as the case may be, as one class, given in person or by proxy, either in writing or by resolution adopted at an annual or special meeting (except that no such vote or consent shall be required for the issuance of additional shares of Series 3 Preferred Stock to be paid as dividends on such Series 3 Preferred Stock pursuant to the terms of such Series 3 Preferred Stock). (B) So long as any shares of the Exchangeable Preferred Stock are outstanding, the Company will not amend this Certificate of Designation so as to affect adversely the specified rights, preferences, privileges or voting rights of Holders of shares of Exchangeable Preferred Stock or to authorize the issuance of any additional shares of Exchangeable Preferred Stock (except to authorize the issuance of additional shares of Exchangeable Preferred Stock to be paid as dividends on the Exchangeable Preferred Stock, for which no consent shall be necessary) without the affirmative vote or consent of Holders of at least a majority of the issued and outstanding shares of Exchangeable Preferred Stock, voting or consenting, as the case may be, as one class, given in person or by proxy, either in writing or by resolution adopted at an annual or special meeting. (C) Except as set forth in paragraph (f)(iii)(A) or (B) above, (x) the creation, authorization or issuance of any shares of any Junior Stock, Parity Stock or Senior Stock, including the designation of a series of Exchangeable Preferred Stock, or (y) the increase or decrease in the amount of authorized Capital Stock of any class, including Preferred Stock, shall not require the consent of Holders of Exchangeable Preferred Stock and shall not be deemed to affect adversely the rights, preferences, privileges or voting rights of shares of Exchangeable Preferred Stock. (D) Prior to the exchange of Exchangeable Preferred Stock for Exchange Debentures, the Company shall not amend or modify the Exchange Indenture (except as expressly provided therein in respect of amendments without the consent of holders of Exchange Debentures) without 96 17 the affirmative vote or consent of holders of at least a majority of the shares of Exchangeable Preferred Stock then outstanding, voting or consenting, as the case may be, as one class, given in person or by proxy, either in writing or by resolution adopted at an annual or special meeting. (iv) In any case in which the Holders of Exchangeable Preferred Stock shall be entitled to vote pursuant to this paragraph (f) or pursuant to Delaware law, each Holder of Exchangeable Preferred Stock entitled to vote with respect to such matters shall be entitled to one vote for each share of Exchangeable Preferred Stock held. (g) Exchange. (i) Exchange for Debentures. (A) The Company may, at its option, on any scheduled Dividend Payment Date, exchange the Exchangeable Preferred Stock, in whole but not in part, for the Exchange Debentures; provided however, that (1) on the date of such exchange there are no accumulated and unpaid dividends on the Exchangeable Preferred Stock (including the dividends payable on such date) or other contractual impediment to such exchange; (2) there shall be funds legally available sufficient therefor; (3) immediately after giving effect to such exchange, no Default (as defined in the Exchange Indenture) shall have occurred and be continuing, and (iv) the Company shall have delivered to the Trustee under the Exchange Indenture an opinion of counsel with respect to the due authorization and issuance of the Exchange Debentures. (B) Upon any exchange pursuant to this paragraph (g)(i), holders of outstanding shares of Exchangeable Preferred Stock will be entitled to receive $1.00 principal amount of Exchange Debentures for each $1.00 of liquidation preference of Exchangeable Preferred Stock held by them. Exchange Debentures issued in exchange for Exchangeable Preferred Stock will be issued in principal amounts of $1,000 and integral multiples thereof to the extent possible, and will also be issued in principal amounts less than $1,000 so that each holder of Exchangeable Preferred Stock will receive certificates representing the entire amount of Exchange Debentures to which such holder's shares of Exchangeable Preferred Stock entitle such holder; 97 18 provided, however, that the Company may pay cash in lieu of issuing an Exchange Debenture in a principal amount less than $1,000. (ii) Procedures. (A) The Company will send a written notice of exchange (the "Exchange Notice") by mail to each holder of record of shares of Exchangeable Preferred Stock not fewer than 30 days nor more than 60 days before the date fixed for such exchange (the "Exchange Date"); provided, however, that no failure to give such notice nor any deficiency therein shall affect the validity of the procedure for the exchange of any shares of Exchangeable Preferred Stock to be exchanged except as to the holder or holders to whom the Company has failed to give said notice or except as to the holder or holders whose notice was defective. The Exchange Notice shall state: (1) the Exchange Date; (2) that the holder is to surrender to the Company, in the manner and at the place or places designated, his certificate or certificates representing the shares of Exchangeable Preferred Stock to be exchanged; (3) that dividends on the shares of Exchangeable Preferred Stock to be exchanged shall cease to accrue on such Exchange Date whether or not certificates for shares of Exchangeable Preferred Stock are surrendered for exchange on such Exchange Date unless the Company shall default in the delivery of Exchange Debentures; and (4) that interest on the Exchange Debentures shall accrue from the Exchange Date whether or not certificates for shares of Exchangeable Preferred Stock are surrendered for exchange on such Exchange Date. (B) On and after the Exchange Date, dividends will cease to accrue on the outstanding shares of Exchangeable Preferred Stock, and all rights of the holders of Exchangeable Preferred Stock (except the right to receive Exchange Debentures, an amount in cash, to the extent 98 19 applicable, equal to the accumulated and unpaid dividends to the Exchange Date and, if the Company so elects, cash in lieu of any Exchange Debenture that is in a principal amount that is not an integral multiple of $1,000) will terminate. The person entitled to receive the Exchange Debentures issuable upon such exchange will be treated for all purposes as the registered holder of such Exchange Debentures. (C) On or before the Exchange Date, each holder of Exchangeable Preferred Stock shall surrender the certificate or certificates representing such shares of Exchangeable Preferred Stock, in the manner and at the place designated in the Exchange Notice. The Company shall cause the Exchange Debentures to be executed on the Exchange Date and, upon surrender in accordance with the Exchange Notice of the certificates for any shares of Exchangeable Preferred Stock so exchanged, duly endorsed (or otherwise in proper form for transfer, as determined by the Company), such shares shall be exchanged by the Company into Exchange Debentures. The Company shall pay interest on the Exchange Debentures at the rate and on the dates specified therein from the Exchange Date. (iii) No Exchange in Certain Cases. Notwithstanding the foregoing provisions of this paragraph (g), the Company shall not be entitled to exchange the Exchangeable Preferred Stock for Exchange Debentures if such exchange, or any term or provision of the Exchange Indenture or the Exchange Debentures, or the performance of the Company's obligations under the Exchange Indenture or the Exchange Debentures, shall materially violate or conflict with any applicable law or agreement or instrument then binding on the Company or if, at the time of such exchange, the Company is insolvent or if it would be rendered insolvent by such exchange. (iv) Exchange of Initial Exchangeable Preferred Stock for Series B Stock. The Series B Stock will be issued by the Company only in connection with an exchange offer, on a share for share basis, for the Initial Exchangeable Preferred Stock as required pursuant to the Registration Rights Agreement. Each share of Series B Stock issued in exchange for a share of Initial Exchangeable Preferred Stock 99 20 will be deemed to have the same liquidation preference and accrued and unpaid dividends as the share of Initial Exchangeable Preferred Stock so exchanged. (h) Change of Control. (i) Upon the occurrence of a Change of Control (the date of such occurrence being the "Change of Control Date"), the Company shall either (1) offer to purchase each holder's Exchangeable Preferred Stock in cash pursuant to the offer described in paragraph (h)(iii) (the "Change of Control Offer") at a purchase price equal to 101% of the Liquidation Preference thereof, plus, without duplication, all accrued and unpaid dividends, if any, to the Change of Control Payment Date, including an amount in cash equal to a prorated dividend for the period from the Dividend Payment Date immediately prior to the Change of Control Payment Date to the Change of Control Payment Date or (2) notify each holder of the Company's election not to make an offer as described in clause (1) above, in which case the dividend rate on the Exchangeable Preferred Stock shall be subject to reset pursuant to paragraph (c)(ii). (ii) Prior to the mailing of the notice referred to in paragraph (h)(iii), but in any event within 30 days following the date on which the Company knows or reasonably should have known that a Change in Control has occurred, the Company covenants that it shall promptly determine if the purchase of the Exchangeable Preferred Stock would violate or constitute a default under the indebtedness of the Company. (iii) Within 30 days following the date on which the Company knows or reasonably should have known that a Change in Control has occurred, the Company must send, by first-class mail, postage prepaid, a notice to each holder of Exchangeable Preferred Stock. Such notice shall state whether the Company has elected to make an offer to purchase shares of Exchangeable Preferred Stock and if it has so elected, such notice shall contain all instructions and materials necessary to enable such holders to tender Exchangeable Preferred Stock pursuant to the Change of 100 21 Control Offer. If the Company has elected to make a Change of Control Offer, such notice shall state: (A) that a Change of Control has occurred, that a Change of Control Offer is being made pursuant to this paragraph (h) and that all Exchangeable Preferred Stock validly tendered and not withdrawn will be accepted for payment; (B) the purchase price (including the amount of accrued dividends, if any) and the purchase date (which must be no earlier than 30 days nor later than 60 days from the date such notice is mailed, other than as may be required by law) (the "Change of Control Payment Date"); (C) that any shares of Exchangeable Preferred Stock not tendered will continue to accrue dividends; (D) that, unless the Company defaults in making payment therefor, any share of Exchangeable Preferred Stock accepted for payment pursuant to the Change of Control Offer shall cease to accrue dividends after the Change of Control Payment Date; (E) that holders electing to have any shares of Exchangeable Preferred Stock purchased pursuant to a Change of Control Offer will be required to surrender stock certificates representing such shares of Exchangeable Preferred Stock, properly endorsed for transfer, together with such other customary documents as the Company and the Transfer Agent may reasonably request to the Transfer Agent and registrar for the Exchangeable Preferred Stock at the address specified in the notice prior to the close of business on the Business Day prior to the Change of Control Payment Date; (F) that holders will be entitled to withdraw their election if the Company receives, not later than five Business Days prior to the Change of Control Payment Date, a telegram, a telex, facsimile transmission or letter setting forth the name of the 101 22 holder, the number of shares of Exchangeable Preferred Stock the holder delivered for purchase and a statement that such holder is withdrawing his election to have such shares of Exchangeable Preferred Stock purchased; (G) that holders whose shares of Exchangeable Preferred Stock are purchased only in part will be issued a new certificate representing the unpurchased shares of Exchangeable Preferred Stock; and (H) the circumstances and relevant facts regarding such Change of Control (including information with respect to pro forma historical income, cash flow and capitalization after giving effect to such Change of Control). If the Company elects not to make a Change of Control Offer, such notice shall state that the dividend rate on the Exchangeable Preferred Stock is subject to adjustment pursuant to paragraph (c)(ii). (iv) The Company will comply with any tender offer rules under the Exchange Act which then may be applicable, including Rules 13e-4 and 14e-1, in connection with any offer made by the Company to repurchase the shares of Exchangeable Preferred Stock as a result of a Change of Control. To the extent that the provisions of any securities laws or regulations conflict with provisions of this Certificate of Designation, the Company shall comply with the applicable securities laws and regulations and shall not be deemed to have breached its obligations under this Certificate of Designation by virtue thereof. (v) On the Change of Control Payment Date the Company shall (A) accept for payment the shares of Exchangeable Preferred Stock validly tendered pursuant to the Change of Control Offer, (B) pay to the holders of shares so accepted the purchase price therefor in cash and (C) cancel each surrendered certificate and retire the shares represented thereby. Unless the Company defaults in the payment for the shares of Exchangeable Preferred Stock tendered pursuant to the Change of Control Offer, dividends will cease to accrue with respect to the shares of 102 23 Exchangeable Preferred Stock tendered and all rights of holders of such tendered shares will terminate, except for the right to receive payment therefor, on the Change of Control Payment Date. (vi) To accept the Change of Control Offer, the holder of a share of Exchangeable Preferred Stock shall deliver, on or before the 10th day prior to the Change of Control Payment Date, written notice to the Company (or an agent designated by the Company for such purpose) of such holder's acceptance, together with certificates evidencing the shares of Exchangeable Preferred Stock with respect to which the Change of Control Offer is being accepted, duly endorsed for transfer. (i) Conversion or Exchange. Except as otherwise provided herein, the holders of shares of Exchangeable Preferred Stock shall not have any rights hereunder to convert such shares into or exchange such shares for shares of any other class or classes or of any other series of any class or classes of Capital Stock of the Company. (j) Reissuance of Exchangeable Preferred Stock. Shares of Exchangeable Preferred Stock that have been issued and reacquired in any manner, including shares purchased or redeemed or exchanged, shall not be reissued as shares of Exchangeable Preferred Stock and shall (upon compliance with any applicable provisions of the laws of Delaware) have the status of authorized and unissued shares of Preferred Stock undesignated as to series and may be redesignated and reissued as part of any series of Preferred Stock; provided, however, that so long as any shares of Exchangeable Preferred Stock are outstanding, any issuance of such shares must be in compliance with the terms hereof. (k) Business Day. If any payment, redemption or exchange shall be required by the terms hereof to be made on a day that is not a Business Day, such payment, redemption or exchange shall be made on the immediately succeeding Business Day. 103 24 (l) Certain Additional Provisions. The Company covenants and agrees for the benefit of the Holders as follows: (i) SEC Reports. The Company shall file with the Trustee and provide Holders, within 15 days after it files them with the SEC, copies of its annual report and the information, documents and other reports which the Company is required to file with the SEC pursuant to Section 13 or 15(d) of the Exchange Act. Notwithstanding that the Company may not be required to remain subject to the reporting requirements of Section 13 or 15(d) of the Exchange Act, the Company shall continue to file with the SEC and provide the Trustee and Holders with such annual reports and such information, documents and other reports as are specified in Sections 13 and 15(d) of the Exchange Act and applicable to a U.S. corporation subject to such Sections, such information, documents and other reports to be so filed and provided at the times specified for the filing of such information, documents and reports under such Sections. (ii) Limitation on Indebtedness. (A) The Company shall not Incur, and shall not permit any Restricted Subsidiary to Incur, directly or indirectly, any Indebtedness unless, on the date of such Incurrence and after giving pro forma effect thereto (including pro forma application of the net proceeds therefrom) and to any other Indebtedness Incurred or repaid since the end of the period referred to below and the receipt and application of the proceeds thereof, either (i) the Indebtedness to Operating Cash Flow Ratio for the Company's most recently ended four full fiscal quarters for which internal financial statements are available immediately preceding the date on which such Indebtedness is Incurred would have been not more than 5.0 to 1.0, or (ii) the Company's Consolidated Capital Ratio as of the end of the most recent fiscal quarter for which internal financial statements are available immediately preceding the date on which such Indebtedness is Incurred is less than 2.0 to 1.0. 104 25 (B) Notwithstanding the foregoing paragraph (a), the Company and its Restricted Subsidiaries may Incur any or all of the following Indebtedness: (1) Indebtedness Incurred pursuant to one or more Credit Agreements; provided, however, that, after giving effect to any such Incurrence, the aggregate principal amount of such Indebtedness then outstanding does not exceed the greater of (A) $150,000,000 and (B) 85% of the book value of the Accounts Receivables of the Company and its Restricted Subsidiaries; (2) Indebtedness owed to and held by the Company or a Restricted Subsidiary; provided, however, that any subsequent issuance or transfer of any Capital Stock which results in any Restricted Subsidiary ceasing to be a Restricted Subsidiary or any subsequent transfer of such Indebtedness (other than to the Company or another Restricted Subsidiary) shall be deemed, in each case, to constitute the Incurrence of such Indebtedness by the issuer thereof; (3) the Exchange Debentures (including Exchange Debentures issued in lieu of cash interest payments with respect to Exchange Debentures); (4) Indebtedness outstanding on the Issue Date (other than Indebtedness described in clause (1), (2) or (3) of this paragraph (l)(ii)(B)); (5) Refinancing Indebtedness in respect of Indebtedness Incurred pursuant to paragraph (l)(ii)(A) pursuant to clause (3) or (4) of this paragraph (l)(ii)(B) or this clause (5); (6) Hedging Obligations consisting of Interest Rate Agreements directly related to Indebtedness permitted to be Incurred by the Company and its Restricted Subsidiaries pursuant to this Certificate of Designation. (7) Indebtedness represented by Capital Lease Obligations, mortgage financings or purchase money 105 26 obligations, in each case Incurred for the purpose of financing all or any part of the purchase price or cost of construction or improvement of property used in the business of the Company or such Restricted Subsidiary; (8) In the event that the PSINet Shares are held by the Company or a Restricted Subsidiary, the Incurrence by the Company or such Restricted Subsidiary of Permitted PSINet Non-Recourse Debt; and (9) Indebtedness in an aggregate principal amount at any time outstanding which, together with the amount of all other Indebtedness of the Company and its Restricted Subsidiaries outstanding on the date of such Incurrence (other than Indebtedness permitted by clauses (1) through (8) of this paragraph (l)(ii)(B) and paragraph (l)(ii)(A)), does not exceed 5% of Consolidated Tangible Assets. (C) Notwithstanding the foregoing, the Company shall not Incur any Indebtedness pursuant to paragraph (l)(ii)(B) if the proceeds thereof are used, directly or indirectly, to Refinance any Subordinated Obligations unless such Indebtedness shall be subordinated to the Exchange Debentures to at least the same extent as such Subordinated Obligations. (D) For purposes of determining compliance with this paragraph (l)(ii), (1) in the event that an item of Indebtedness meets the criteria of more than one of the types of Indebtedness described above, the Company, in its sole discretion, will classify such item of Indebtedness and only be required to include the amount and type of such Indebtedness in one of the above clauses and (2) an item of Indebtedness may be divided and classified in more than one of the types of Indebtedness described above. (iii) Limitation on Restricted Payments. (A) The Company shall not, and shall not permit any Restricted 106 27 Subsidiary, directly or indirectly, to make a Restricted Payment if at the time the Company or such Restricted Subsidiary makes such Restricted Payment: (1) a Voting Rights Triggering Event shall have occurred and be continuing (or would result therefrom); (2) the Company is not able to Incur an additional $1.00 of Indebtedness under paragraph (l)(ii)(A); or (3) the aggregate amount of such Restricted Pay ment and all other Restricted Payments since the Issue Date would exceed the sum of: (I) an amount equal to the Cumulative Operating Cash Flor for the period (taken as one accounting period) from the beginning of the first full fiscal quarter commencing after the Issue Date to the end of the Company's most recently ended fiscal quarter for which internal financial statements are available at the time of such Restricted Payment less 1.50 times the Company's Cumulative Consolidated Interest Expense for such period; (II) the aggregate Net Cash Proceeds received by the Company from the issuance or sale of its Parity Stock and Junior Stock (in each case other than Disqualified Stock) subsequent to the Issue Date (other than an issuance or sale to a Subsidiary of the Company and other than an issuance or sale to an employee stock ownership plan or to a trust established by the Company or any of its Subsidiaries for the benefit of their employees); (III) the amount by which Indebtedness of the Company is reduced on the Company's balance sheet upon the conversion or exchange (other than by a Subsidiary of the Company) subsequent to the Issue Date of any Indebtedness of the Company convertible or exchangeable for Parity Stock or Junior Stock (in each case other than Disqualified 107 28 Stock) of the Company (less the amount of any cash, or the fair value of any other property, distributed by the Company upon such conversion or exchange); and (IV) an amount equal to the sum of (x) the net reduction in Investments in any Person resulting from dividends, repayments of loans or advances or other transfers of assets (but excluding such interest, dividends, repayments, advances or other transfers of assets to the extent any such item increases Consolidated Net Income), in each case to the Company or any Restricted Subsidiary from any Person (including, without limitation, from Unrestricted Subsidiaries), and (y) the portion (proportionate to the Company's equity interest in such Subsidiary) of the fair market value of the net assets of an Unrestricted Subsidiary at the time such Unrestricted Subsidiary is designated a Restricted Subsidiary; provided, however, that the foregoing sum shall not exceed, in the case of any Person (including any Unrestricted Subsidiary), the amount of Investments previously made (and treated as a Restricted Payment) by the Company or any Restricted Subsidiary in such Person. (B) The provisions of paragraph (l)(iii)(A) shall not prohibit: (1) any Restricted Payment made out of the proceeds of the substantially concurrent sale of, or any acquisition of any Parity Stock or Junior Stock of the Company made by exchange for, other Parity Stock or Junior Stock, as the case may be, of the Company (in each case other than Disqualified Stock and other than Parity Stock or Junior Stock issued or sold to a Subsidiary of the Company or an employee stock ownership plan or to a trust established by the Company or any of its Subsidiaries for the benefit of their employees); provided, however, that (I) such Restricted Payment shall be excluded in the calculation of the amount of Restricted Payments and (II) the Net Cash Proceeds from such sale shall be excluded from the 108 29 calculation of amounts under paragraph (l)(iii)(A)(3)(II); (2) dividends paid within 60 days after the date of declaration thereof if at such date of declaration such dividend would have complied with paragraph (l)(iii); provided, however, that at the time of payment of such dividend, no other Voting Rights Triggering Event shall have occurred and be continuing (or result therefrom); provided further, however, that such dividend shall be included in the calculation of the amount of Restricted Payments; or (3) the repurchase or other acquisition of shares of, or options to purchase shares of, common stock of the Company or any of its Subsidiaries from employees, former employees, directors or former directors of the Company or any of its Subsidiaries (or permitted transferees of such employees, former employees, directors or former directors), pursuant to the terms of the agreements (including employment agreements) or plans (or amendments thereto) approved by the Board of Directors under which such individuals purchase or sell or are granted the option to purchase or sell, shares of such common stock; provided, however, that the aggregate amount of such repurchases and other acquisitions shall not exceed $1,000,000 in any calendar year; provided further, however, that such repurchases and other acquisitions shall be excluded in the calculation of the amount of Restricted Payments. (iv) Limitation on Restrictions on Distributions from Restricted Subsidiaries. The Company shall not, and shall not permit any Restricted Subsidiary to, create or otherwise cause or permit to exist or become effective any consensual encumbrance or restriction on the ability of any Restricted Subsidiary to (A) pay dividends or make any other distributions on its Capital Stock to the Company or a Restricted Subsidiary or pay any Indebtedness owed to the 109 30 Company, (B) make any loans or advances to the Company or (C) transfer any of its property or assets to the Company, except: (1) any encumbrance or restriction pursuant to an agreement in effect at or entered into on the Issue Date; (2) any encumbrance or restriction with respect to a Restricted Subsidiary pursuant to an agreement relating to any Indebtedness Incurred by such Restricted Subsidiary on or prior to the date on which such Restricted Subsidiary was acquired by the Company (other than Indebtedness Incurred as consideration in, or to provide all or any portion of the funds or credit support utilized to consummate, the transaction or series of related transactions pursuant to which such Restricted Subsidiary became a Restricted Subsidiary or was acquired by the Company) and outstanding on such date; (3) any encumbrance or restriction pursuant to an agreement effecting a Refinancing of Indebtedness Incurred pursuant to an agreement referred to in clause (1) or (2) of this paragraph (l)(iv) or this clause (3) or contained in any amendment to an agreement referred to in clause (1) or (2) of this paragraph (l)(iv) or this clause (3); provided, however, that the encumbrances and restrictions with respect to such Restricted Subsidiary contained in any such refinancing agreement or amendment are no less favorable to the holders of Exchangeable Preferred Stock than encumbrances and restrictions with respect to such Restricted Subsidiary contained in such predecessor agreements; (4) any such encumbrance or restriction consisting of customary nonassignment provisions in leases governing leasehold interests to the extent such provisions restrict the transfer of the lease or the property leased thereunder; 110 31 (5) in the case of clause (C) above, restrictions contained in IRU Agreements, security agreements or mortgages securing Indebtedness or other obligations of a Restricted Subsidiary to the extent such restrictions restrict the transfer of the property subject to such security agreements or mortgages; (6) any restriction with respect to a Restricted Subsidiary imposed pursuant to an agreement entered into for the sale or disposition of all or substantially all the Capital Stock or assets of such Restricted Subsidiary pending the closing of such sale or disposition; and (7) any such encumbrance or restriction contained in the PSINet Agreement. (v) Limitation on Affiliate Transactions. (A) The Company shall not, and shall not permit any Restricted Subsidiary to, enter into or permit to exist any transaction (including the purchase, sale, lease or exchange of any property, employee compensation arrangements or the rendering of any service) with any Affiliate of the Company (an "Affiliate Transaction") unless (1) such Affiliate Transaction is on terms that are no less favorable to the Company or the relevant Restricted Subsidiary than those that would have been obtained in a comparable transaction by the Company or such Restricted Subsidiary with an unrelated Person and (2) the Company delivers to the Transfer Agent (I) with respect to any Affiliate Transaction involving aggregate consideration in excess of $1,000,000 a resolution of the Board of Directors set forth in an Officers' Certificate certifying that such Affiliate Transaction complies with clause (1) above and that such Affiliate Transaction has been approved by a majority of the disinterested members of the Board of Directors and (II) with respect to any Affiliate Transaction involving aggregate consideration in excess of $10,000,000, other than transactions with GE Capital Communication and Excluded PSINet Transactions, an opinion as to the fairness to the Company or such Restricted Subsidiary of such Affiliate Transaction from a financial point of view issued by an investment banking firm of national standing. 111 32 (B) The provisions of the foregoing paragraph (l)(v)(A) shall not prohibit (1) any Restricted Payment permitted to be paid pursuant to paragraph (l)(iii), (2) any issuance of securities, or other payments, awards or grants in cash, securities or otherwise pursuant to, or the funding of, employment arrangements, stock options and stock ownership plans approved by the Board of Directors, (3) the grant of stock options or similar rights to employees and directors of the Company pursuant to plans approved by the Board of Directors, (4) loans or advances to employees in the ordinary course of business in accordance with the past practices of the Company or its Restricted Subsidiaries, but in any event not to exceed $500,000 in the aggregate outstanding at any one time, (5) any employment or consulting arrangement or agreement entered into by the Company or any of its Restricted Subsidiaries in the ordinary course of business and consistent with the past practice of the Company or such Restricted Subsidiary, (6) the payment of reasonable fees to directors of the Company and its Restricted Subsidiaries who are not employees of the Company or its Restricted Subsidiaries, (7) any Affiliate Transaction between the Company and a Restricted Subsidiary or between Restricted Subsidiaries, (8) transactions in connection with Permitted Businesses between the Company and GE Capital Communication, (9) transactions between the Company or any Restricted Subsidiary specifically contemplated by the PSINet Agreement and (10) the issuance or sale of any Capital Stock (other than Disqualified Stock) of the Company. Notwithstanding the foregoing, Affiliate Transactions shall not include any transaction involving the sale, purchase, repurchase, redemption, transfer, exchange or other acquisition or disposition of Senior Notes, Exchangeable Preferred Stock or Convertible Preferred Stock by or from, or the payment of principal of, premium, if any, and interest on, or liquidation preference of and dividend on, any Senior Notes, Exchangeable Preferred Stock or Convertible Preferred Stock, as the case may be, to any Affiliate of the Company or any Affiliate of a Restricted Subsidiary of the Company; provided, however, that such transaction is offered substantially concurrently to all other holders of Senior Notes, Exchangeable Preferred Stock or Convertible Preferred Stock, as the case may be, on the same terms and conditions; 112 33 provided further, however, that such transaction is approved by a majority of the disinterested members of the Board of Directors, other than transactions in connection with the payment of principal of, premium, if any, and interest on, or liquidation preference of and dividends on, Senior Notes, Exchangeable Preferred Stock or Convertible Preferred Stock, as the case may be, pursuant to the provisions of the indenture or certificate of designation governing the payment of interest and principal, dividends and liquidation preference, optional redemption, repurchases from the proceeds of an asset disposition and repurchases upon a change of control. (vi) When Company May Merge or Transfer Assets. The Company shall not consolidate with or merge with or into, or convey, transfer or lease, in one transaction or a series of transactions, all or substantially all its assets to, any Person, unless: (1) the resulting, surviving or transferee Person (the "Successor Company") shall be a Person organized and existing under the laws of the United States of America, any State thereof or the District of Columbia and the Successor Company (if not the Company) shall expressly assume all the obligations of the Company under the Exchangeable Preferred Stock; (2) immediately after giving effect to such transaction (and treating any Indebtedness which becomes an obligation of the Successor Company or any Subsidiary as a result of such transaction as having been Incurred by such Successor Company or such Subsidiary at the time of such transaction), no Default shall have occurred and be continuing, (3) immediately after giving effect to such transaction, the Successor Company would be able to Incur an additional $1.00 of Indebtedness pursuant to paragraph (l)(ii)(A); (4) immediately after giving effect to such transaction, the Successor Company shall have Consolidated Net Worth in an amount that is not less than the Consolidated Net Worth of the Company immediately prior to such transaction; and (5) the Company shall have delivered to the Trustee an Officers' Certificate, stating that such consolidation, merger or transfer and such assumption (if any) comply with this Certificate of Designation. 113 34 (m) Certificates. (i) Form and Dating. The Exchangeable Preferred Stock and the Transfer Agent's certificate of authentication shall be substantially in the form of Exhibit A, which is hereby incorporated in and expressly made a part of this Certificate of Designation. The Exchangeable Preferred Stock certificate may have notations, legends or endorsements required by law, stock exchange rule, agreements to which the Company is subject, if any, or usage (provided that any such notation, legend or endorsement is in a form acceptable to the Company). Each Exchangeable Preferred Stock certificate shall be dated the date of its authentication. The terms of the Exchangeable Preferred Stock certificate set forth in Exhibit A are part of the terms of this Certificate of Designation. (A) Global Exchangeable Preferred Stock. The Exchangeable Preferred Stock sold in reliance on Rule 144A shall be issued initially in the form of one or more fully registered global certificates with the global securities legend and restricted securities legend set forth in Exhibit A hereto (the "Global Exchangeable Preferred Stock"), which shall be deposited on behalf of the purchasers represented thereby with the Transfer Agent, at its New York office, as custodian for DTC (or with such other custodian as DTC may direct), and registered in the name of DTC or a nominee of DTC, duly executed by the Company and authenticated by the Transfer Agent as hereinafter provided. Subject to the terms hereof and to the requirements of applicable law, the number of shares of Exchangeable Preferred Stock represented by Global Exchangeable Preferred Stock may from time to time be increased or decreased by adjustments made on the records of the Transfer Agent and DTC or its nominee as hereinafter provided. (B) Book-Entry Provisions. In the event Global Exchangeable Preferred Stock is deposited with or on behalf of DTC, the Company shall execute and the Transfer Agent shall authenticate and deliver initially one or more Global Exchangeable Preferred Stock certificates that (a) shall be registered in the name of DTC for such Global Exchangeable Preferred Stock or the nominee of DTC and (b) shall be delivered by the Transfer Agent to DTC or pursuant to DTC's 114 35 instructions or held by the Transfer Agent as custodian for DTC. Members of, or participants in, DTC ("Agent Members") shall have no rights under this Certificate of Designation with respect to any Global Exchangeable Preferred Stock held on their behalf by DTC or by the Transfer Agent as the custodian of DTC or under such Global Exchangeable Preferred Stock, and DTC may be treated by the Company, the Transfer Agent and any agent of the Company or the Transfer Agent as the absolute owner of such Global Exchangeable Preferred Stock for all purposes whatsoever. Notwithstanding the foregoing, nothing herein shall prevent the Company, the Transfer Agent or any agent of the Company or the Transfer Agent from giving effect to any written certification, proxy or other authorization furnished by DTC or impair, as between DTC and its Agent Members, the operation of customary practices of DTC governing the exercise of the rights of a holder of a beneficial interest in any Global Exchangeable Preferred Stock. (C) Certificated Exchangeable Preferred Stock. Exchangeable Preferred Stock initially sold in offshore transactions pursuant to Regulation S under the Securities Act will be issued in fully registered certificated form ("Certificated Exchangeable Preferred Stock"). Except as otherwise provided by applicable law or as provided in this paragraph (m)(i) or in paragraph (m)(iii), owners of beneficial interests in Global Exchangeable Preferred Stock will not be entitled to receive physical delivery of Certificated Exchangeable Preferred Stock. After a transfer of any Initial Exchangeable Preferred Stock during the period of the effectiveness of a Shelf Registration Statement with respect to such Initial Exchangeable Preferred Stock, all requirements pertaining to legends on such Initial Exchangeable Preferred Stock will cease to apply, the requirements requiring that any such Initial Exchangeable Preferred Stock issued to Holders be issued in global form will cease to apply, and Certificated Exchangeable Preferred Stock without legends will be 115 36 available to the transferee of the Holder of such Initial Exchangeable Preferred Stock upon exchange of such transferring Holder's Initial Exchangeable Preferred Stock or directions to transfer such Holder's interest in the Global Exchangeable Preferred Stock, as applicable. Upon the consummation of a Registered Exchange Offer with respect to the Initial Exchangeable Preferred Stock pursuant to which Holders of such Initial Exchangeable Preferred Stock are offered Series B Stock in exchange for their Initial Exchangeable Preferred Stock, all requirements that Initial Exchangeable Preferred Stock be issued in global form will cease to apply and Certificated Exchangeable Preferred Stock with the restricted securities legend set forth in Exhibit A hereto will be available to Holders of such Initial Exchangeable Preferred Stock that do not exchange their Initial Exchangeable Preferred Stock, and Series B Stock in certificated form will be available to Holders that exchange such Initial Exchangeable Preferred Stock in such Registered Exchange Offer. (ii) Execution and Authentication. Two Officers shall sign the certificates representing Exchangeable Preferred Stock for the Company by manual or facsimile signature. The Company's seal shall be impressed, affixed, imprinted or reproduced on the Exchangeable Preferred Stock and may be in facsimile form. If an Officer whose signature is on certificates representing Exchangeable Preferred Stock no longer holds that office at the time the Transfer Agent authenticates the Exchangeable Preferred Stock evidenced thereby, the shares of Exchangeable Preferred Stock evidenced thereby shall be valid nevertheless. A certificate representing Exchangeable Preferred Stock shall not be valid until an authorized signatory of the Transfer Agent manually signs the certificate of authentication on the Exchangeable Preferred Stock. The signature shall be conclusive evidence that the Exchangeable Preferred Stock has been authenticated under this Certificate of Designation. 116 37 The Transfer Agent shall authenticate and deliver: (1) 300,000 shares of Initial Exchangeable Preferred Stock for original issue and (2) 300,000 shares of Series B Stock for issue only in a Registered Exchange Offer pursuant to the Registration Rights Agreement, in each case upon a written order of the Company signed by two Officers or by an Officer and either an Assistant Treasurer or an Assistant Secretary of the Company. In addition, the Transfer Agent shall authenticate and deliver, from time to time, Additional Shares for original issue upon order of the Company signed by two Officers or by an Officer or either an Assistant Treasurer or Assistant Secretary of the Company. Such orders shall specify the number of shares of Exchangeable Preferred Stock to be authenticated and the date on which the original issue of Exchangeable Preferred Stock is to be authenticated and whether the Exchangeable Preferred Stock is to be Initial Exchangeable Preferred Stock or Series B Stock. The Transfer Agent may appoint an authenticating agent reasonably acceptable to the Company to authenticate the Exchangeable Preferred Stock. Unless limited by the terms of such appointment, an authenticating agent may authenticate Exchangeable Preferred Stock whenever the Transfer Agent may do so. Each reference in this Certificate of Designation to authentication by the Transfer Agent includes authentication by such agent. An authenticating agent has the same rights as the Transfer Agent or agent for service of notices and demands. (iii) Transfer and Exchange. (A) Transfer and Exchange of Certificated Exchangeable Preferred Stock. When Certificated Exchangeable Preferred Stock is presented to the Transfer Agent with a request to register the transfer of such Certificated Exchangeable Preferred Stock or to exchange such Certificated Exchangeable Preferred Stock for an equal number of shares of Certificated Exchangeable Preferred Stock of other authorized denominations, the Transfer Agent shall register the transfer or make the exchange as requested if its reasonable requirements for such transaction are met; provided, however, that the 117 38 Certificated Exchangeable Preferred Stock surrendered for transfer or exchange: (1) shall be duly endorsed or accompanied by a written instrument of transfer in form reasonably satisfactory to the Company and the Transfer Agent, duly executed by the Holder thereof or its attorney duly authorized in writing; and (2) in the case of Transfer Restricted Securities that are Certificated Exchangeable Preferred Stock, are being transferred or exchanged pursuant to an effective registration statement under the Securities Act or pursuant to clause (I) or (II) below, and are accompanied by the following additional information and documents, as applicable: (I) if such Transfer Restricted Securities are being delivered to the Transfer Agent by a Holder for registration in the name of such Holder, without transfer, a certification from such Holder to that effect in substantially the form of Exhibit B hereto; or (II) if such Transfer Restricted Securities are being transferred to the Company or to a "qualified institutional buyer" ("QIB") in accordance with Rule 144A under the Securities Act or pursuant to an exemption from registration in accordance with Rule 144 or Regulation S under the Securities Act, a certification to that effect (in substantially the form of Exhibit B hereto). (B) Restrictions on Transfer of Certificated Exchangeable Preferred Stock for a Beneficial Interest in Global Exchangeable Preferred Stock. Certificated Exchangeable Preferred Stock may not be exchanged for a beneficial interest in Global Exchangeable Preferred Stock except upon satisfaction of the requirements set forth below. Upon receipt by the Transfer Agent of Certificated Exchangeable Preferred Stock, duly endorsed or accompanied 118 39 by appropriate instruments of transfer, in form satisfactory to the Transfer Agent, together with: (1) if such Certificated Exchangeable Preferred Stock is a Transfer Restricted Security, certification that such Certificated Exchangeable Preferred Stock is being transferred to a QIB in accordance with Rule 144A under the Securities Act; and (2) whether or not such Certificated Exchangeable Preferred Stock is a Transfer Restricted Security, written instructions directing the Transfer Agent to make, or to direct DTC to make, an adjustment on its books and records with respect to such Global Exchangeable Preferred Stock to reflect an increase in the number of shares of Exchangeable Preferred Stock represented by the Global Exchangeable Preferred Stock, then the Transfer Agent shall cancel such Certificated Exchangeable Preferred Stock and cause, or direct DTC to cause, in accordance with the standing instructions and procedures existing between DTC and the Transfer Agent, the number of shares of Exchangeable Preferred Stock represented by the Global Exchangeable Preferred Stock to be increased accordingly. If no Global Exchangeable Preferred Stock is then outstanding, the Company shall issue and the Transfer Agent shall authenticate, upon written order of the Company in the form of an Officers' Certificate, a new Global Exchangeable Preferred Stock representing the appropriate number of shares. (C) Transfer and Exchange of Global Exchangeable Preferred Stock. The transfer and exchange of Global Exchangeable Preferred Stock or beneficial interests therein shall be effected through DTC, in accordance with this Certificate of Designation (including applicable restrictions on transfer set forth herein, if any) and the procedures of DTC therefor. (D) Transfer of a Beneficial Interest in Global Exchangeable Preferred Stock for a Certificated Exchangeable Preferred Stock. 119 40 (1) Any person having a beneficial interest in Exchangeable Preferred Stock that is being transferred or exchanged pursuant to an effective registration statement under the Securities Act or pursuant to clause (I) or (II) below may upon request, and if accompanied by the information specified below, exchange such beneficial interest for Certificated Exchangeable Preferred Stock representing the same number of shares of Exchangeable Preferred Stock. Upon receipt by the Transfer Agent of written instructions or such other form of instructions as is customary for DTC from DTC or its nominee on behalf of any person having a beneficial interest in Global Exchangeable Preferred Stock and upon receipt by the Transfer Agent of a written order or such other form of instructions as is customary for DTC or the person designated by DTC as having such a beneficial interest in a Transfer Restricted Security only, and upon the following additional information and documents (all of which may be submitted by facsimile): (I) if such beneficial interest is being transferred to the person designated by DTC as being the owner of a beneficial interest in Global Exchangeable Preferred Stock, a certification from such person to that effect (in substantially the form of Exhibit B hereto); or (II) if such beneficial interest is being transferred to a QIB in accordance with Rule 144A under the Securities Act or pursuant to an exemption from registration in accordance with Rule 144 or Regulation S under the Securities Act, a certification to that effect (in substantially the form of Exhibit B hereto); then, the Transfer Agent or DTC, at the direction of the Transfer Agent, will cause, in accordance with the standing instructions and procedures existing between DTC and the Transfer Agent, the number of shares of Exchangeable Preferred Stock represented by Global Exchangeable Preferred Stock to be reduced on its books and records and, following such reduction, the Company will execute and the Transfer 120 41 Agent will authenticate and deliver to the transferee Certificated Exchangeable Preferred Stock. (2) Certificated Exchangeable Preferred Stock issued in exchange for a beneficial interest in a Global Exchangeable Preferred Stock pursuant to this paragraph (m)(iii)(D) shall be registered in such names and in such authorized denominations as DTC, pursuant to instructions from its direct or indirect participants or otherwise, shall instruct the Transfer Agent. The Transfer Agent shall deliver such Certificated Exchangeable Preferred Stock to the persons in whose names such Exchangeable Preferred Stock are so registered in accordance with the instructions of DTC. (E) Restrictions on Transfer and Exchange of Global Exchangeable Preferred Stock. Notwithstanding any other provisions of this Certificate of Designation (other than the provisions set forth in paragraph (m)(iii)(F)), Global Exchangeable Preferred Stock may not be transferred as a whole except by DTC to a nominee of DTC or by a nominee of DTC to DTC or another nominee of DTC or by DTC or any such nominee to a successor depository or a nominee of such successor depository. (F) Authentication of Certificated Exchangeable Preferred Stock. If at any time: (1) DTC notifies the Company that DTC is unwilling or unable to continue as depository for the Global Exchangeable Preferred Stock and a successor depository for the Global Exchangeable Preferred Stock is not appointed by the Company within 90 days after delivery of such notice; (2) DTC ceases to be a clearing agency registered under the Exchange Act; (3) there shall have occurred and be continuing a Voting Rights Triggering Event; or 121 42 (4) the Company, in its sole discretion, notifies the Transfer Agent in writing that it elects to cause the issuance of Certificated Exchangeable Preferred Stock under this Certificate of Designation, then the Company will execute, and the Transfer Agent, upon receipt of a written order of the Company signed by two Officers or by an Officer and either an Assistant Treasurer or an Assistant Secretary of the Company requesting the authentication and delivery of Certificated Exchangeable Preferred Stock to the persons designated by the Company, will authenticate and deliver Certificated Exchangeable Preferred Stock equal to the number of shares of Exchangeable Preferred Stock represented by the Global Exchangeable Preferred Stock, in exchange for such Global Exchangeable Preferred Stock. (G) Legend. (1) Except as permitted by the following paragraph (2), each certificate evidencing the Global Exchangeable Preferred Stock and the Certificated Exchangeable Preferred Stock (and all Exchangeable Preferred Stock issued in exchange therefor or substitution thereof) shall bear a legend in substantially the following form: "THIS SECURITY (OR ITS PREDECESSOR) WAS ORIGINALLY ISSUED IN A TRANSACTION EXEMPT FROM REGISTRATION UNDER THE UNITED STATES SECURITIES ACT OF 1933 (THE "SECURITIES ACT"), AND THIS SECURITY MAY NOT BE OFFERED, SOLD OR OTHERWISE TRANSFERRED IN THE ABSENCE OF SUCH REGISTRATION OR AN APPLICABLE EXEMPTION THEREFROM. EACH PURCHASER OF THIS SECURITY IS HEREBY NOTIFIED THAT THE SELLER OF THIS SECURITY MAY BE RELYING ON THE EXEMPTION FROM THE PROVISIONS OF SECTION 5 OF THE SECURITIES ACT PROVIDED BY RULE 144A THEREUNDER. "THE HOLDER OF THIS SECURITY AGREES FOR THE BENEFIT OF THE ISSUER THAT (A) THIS SECURITY MAY BE OFFERED, RESOLD, PLEDGED OR OTHERWISE TRANSFERRED ONLY (i) TO A PERSON WHOM THE SELLER REASONABLY BELIEVES IS A "QUALIFIED INSTITUTIONAL BUYER" (AS DEFINED IN RULE 144A UNDER THE SECURITIES ACT) IN A TRANSACTION MEETING THE REQUIREMENTS OF RULE 144A, (ii) IN AN 122 43 OFFSHORE TRANSACTION IN ACCORDANCE WITH RULE 904 UNDER THE SECURITIES ACT, (iii) PURSUANT TO AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT PROVIDED BY RULE 144 THEREUNDER (IF AVAILABLE), (iv) PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR (v) TO THE COMPANY, IN EACH OF CASES (i) THROUGH (iv) IN ACCORDANCE WITH ANY APPLICABLE SECURITIES LAWS OF ANY STATE OF THE UNITED STATES, AND (B) THE HOLDER WILL, AND EACH SUBSEQUENT HOLDER IS REQUIRED TO, NOTIFY ANY PURCHASER OF THIS SECURITY FROM IT OF THE RESALE RESTRICTIONS REFERRED TO IN (A) ABOVE. "BY ITS ACQUISITION HEREOF, THE HOLDER REPRESENTS THAT (A) IT IS A "QUALIFIED INSTITUTIONAL BUYER" (AS DEFINED IN RULE 144A UNDER THE SECURITIES ACT") OR (B) IT IS NOT A U.S. PERSON AND IS ACQUIRING THIS SECURITY IN AN OFFSHORE TRANSACTION IN ACCORDANCE WITH REGULATION S. (2) Upon any sale or transfer of a Transfer Restricted Security (including any Transfer Restricted Security represented by Global Exchangeable Preferred Stock) pursuant to Rule 144 under the Securities Act or an effective registration statement under the Securities Act: (I) in the case of any Transfer Restricted Security that is a Certificated Exchangeable Preferred Stock, the Transfer Agent shall permit the Holder thereof to exchange such Transfer Restricted Security for a Certificated Exchangeable Preferred Stock that does not bear the legend set forth above and rescind any restriction on the transfer of such Transfer Restricted Security; (II) in the case of any Transfer Restricted Security that is represented by a Global Exchangeable Preferred Stock, the Transfer Agent shall permit the Holder thereof to exchange such Transfer Restricted Security for a Certificated Exchangeable Preferred Stock Security that does not bear the legend set forth above and rescind any restriction on the transfer of such Transfer Restricted Security, if the Holder's request for 123 44 such exchange was made in reliance on Rule 144 and the Holder certifies to that effect in writing to the Transfer Agent (such certification to be in the form set forth on the reverse of the Transfer Restricted Security); and (III) in the case of any Transfer Restricted Security that is represented by a Global Exchangeable Preferred Stock, the Transfer Agent shall permit the Holder thereof to exchange such Transfer Restricted Security (in connection with the offer to exchange Series B Stock for Initial Exchangeable Preferred Stock pursuant to the Registration Rights Agreement) for another Global Exchangeable Preferred Stock that does not bear the legend set forth above. (H) Cancelation or Adjustment of Global Exchangeable Preferred Stock. At such time as all beneficial interests in Global Exchangeable Preferred Stock have either been exchanged for Certificated Exchangeable Preferred Stock, redeemed, repurchased or canceled, such Global Exchangeable Preferred Stock shall be returned to DTC for cancelation or retained and canceled by the Transfer Agent. At any time prior to such cancelation, if any beneficial interest in Global Exchangeable Preferred Stock is exchanged for Certificated Exchangeable Preferred Stock, redeemed, repurchased or canceled, the number of shares of Exchangeable Preferred Stock represented by such Global Exchangeable Preferred Stock shall be reduced and an adjustment shall be made on the books and records of the Transfer Agent with respect to such Global Exchangeable Preferred Stock, by the Transfer Agent or DTC, to reflect such reduction. (I) Obligations with Respect to Transfers and Exchanges of Exchangeable Preferred Stock. (1) To permit registrations of transfers and exchanges, the Company shall execute and the Transfer Agent shall authenticate Certificated Exchangeable Preferred Stock and Global Exchangeable Preferred Stock as required pursuant to the provisions of this paragraph (iii). 124 45 (2) All Certificated Exchangeable Preferred Stock and Global Exchangeable Preferred Stock issued upon any registration of transfer or exchange of Certificated Exchangeable Preferred Stock or Global Exchangeable Preferred Stock shall be the valid obligations of the Company, entitled to the same benefits under this Certificate of Designation as the Certificated Exchangeable Preferred Stock or Global Exchangeable Preferred Stock surrendered upon such registration of transfer or exchange. (3) Prior to due presentment for registration of transfer of any shares of Exchangeable Preferred Stock, the Transfer Agent and the Company may deem and treat the person in whose name such shares of Exchangeable Preferred Stock are registered as the absolute owner of such Exchangeable Preferred Stock and neither the Transfer Agent nor the Company shall be affected by notice to the contrary. (4) No service charge shall be made to a Holder for any registration of transfer or exchange upon surrender of any Exchangeable Preferred Stock Certificate at the office of the Transfer Agent maintained for that purpose. However, the Company may require payment of a sum sufficient to cover any tax or other governmental charge that may be imposed in connection with any registration of transfer or exchange of Exchangeable Preferred Stock Certificates. (5) Upon any sale or transfer of shares of Exchangeable Preferred Stock (including any Exchangeable Preferred Stock represented by a Global Exchangeable Preferred Stock Certificate) pursuant to an effective registration statement under the Securities Act, pursuant to Rule 144 under the Securities Act or pursuant to an opinion of counsel reasonably satisfactory to the Company that no legend is required: (A) in the case of any Certificated Exchangeable Preferred Stock, the Transfer Agent shall permit the holder thereof to exchange such 125 46 Exchangeable Preferred Stock for Certificated Exchangeable Preferred Stock that does not bear the legend set forth in paragraph (iii)(G) above and rescind any restriction on the transfer of such Exchangeable Preferred Stock; and (B) in the case of any Global Exchangeable Preferred Stock, such Exchangeable Preferred Stock shall not be required to bear the legend set forth in paragraph (iii)(G) above but shall continue to be subject to the provisions of paragraph (iii)(D) hereof; provided, however, that with respect to any request for an exchange of Exchangeable Preferred Stock that is represented by Global Exchangeable Preferred Stock for Certificated Exchangeable Preferred Stock that does not bear the legend set forth in paragraph (iii)(G) above in connection with a sale or transfer thereof pursuant to Rule 144 (and based upon an opinion of counsel if the Company so requests), the Holder thereof shall certify in writing to the Transfer Agent that such request is being made pursuant to Rule 144 (such certification to be substantially in the form of Exhibit B hereto). (iv) Replacement Certificates. If a mutilated Exchangeable Preferred Stock certificate is surrendered to the Transfer Agent or if the Holder of a Exchangeable Preferred Stock certificate claims that the Exchangeable Preferred Stock certificate has been lost, destroyed or wrongfully taken, the Company shall issue and the Transfer Agent shall countersign a replacement Exchangeable Preferred Stock certificate if the reasonable requirements of the Transfer Agent and of Section 8-405 of the Uniform Commercial Code as in effect in the State of New York are met. If required by the Transfer Agent or the Company, such Holder shall furnish an indemnity bond sufficient in the judgment of the Company and the Transfer Agent to protect the Company and the Transfer Agent from any loss which 126 47 either of them may suffer if a Exchangeable Preferred Stock certificate is replaced. The Company and the Transfer Agent may charge the Holder for their expenses in replacing a Exchangeable Preferred Stock certificate. (v) Temporary Certificates. Until definitive Exchangeable Preferred Stock certificates are ready for delivery, the Company may prepare and the Transfer Agent shall countersign temporary Exchangeable Preferred Stock certificates. Temporary Exchangeable Preferred Stock certificates shall be substantially in the form of definitive Exchangeable Preferred Stock certificates but may have variations that the Company considers appropriate for temporary Exchangeable Preferred Stock certificates. Without unreasonable delay, the Company shall prepare and the Transfer Agent shall countersign definitive Exchangeable Preferred Stock certificates and deliver them in exchange for temporary Exchangeable Preferred Stock certificates. (vi) Cancelation. (A) In the event the Company shall purchase or otherwise acquire Certificated Exchangeable Preferred Stock, the same shall thereupon be delivered to the Transfer Agent for cancelation. (B) At such time as all beneficial interests in Global Exchangeable Preferred Stock have either been exchanged for Certificated Exchangeable Preferred Stock, redeemed, repurchased or canceled, such Global Exchangeable Preferred Stock shall thereupon be delivered to the Transfer Agent for cancelation. (C) The Transfer Agent and no one else shall cancel and destroy all Exchangeable Preferred Stock certificates surrendered for transfer, exchange, replacement or cancelation and deliver a certificate of such destruction to the Company unless the Company directs the Transfer Agent to deliver canceled Exchangeable Preferred Stock certificates to the Company. The Company may not issue new Exchangeable Preferred Stock certificates to replace Exchangeable Preferred Stock certificates to the extent they evidence Exchangeable Preferred Stock which the Company has purchased or otherwise acquired. 127 48 (m) Additional Rights of Holders. In addition to the rights provided to Holders under this Certificate of Designation, Holders shall have the rights set forth in the Registration Rights Agreement. (n) Certain Definitions. As used in this Certificate of Designation, the following terms shall have the following meanings (and (1) terms defined in the singular have comparable meanings when used in the plural and vice versa, (2) "including" means including without limitation, (3) "or" is not exclusive and (4) an accounting term not otherwise defined has the meaning assigned to it in accordance with United States generally accepted accounting principles as in effect on the Issue Date and all accounting calculations will be determined in accordance with such principles), unless the content otherwise requires: "Accounts Receivable" means, with respect to any Person, all accounts receivable of such Person net of allowances for uncollectible accounts, discounts, refunds and all other allowances as determined in accordance with GAAP. "Additional Assets" means (i) any property or assets (other than Indebtedness and Capital Stock) in a Related Business; (ii) the Capital Stock of a Person that becomes a Restricted Subsidiary as a result of the acquisition of such Capital Stock by the Company or another Restricted Subsidiary; or (iii) Capital Stock in any Person that at such time is a Restricted Subsidiary; provided, however, that any such Restricted Subsidiary described in clauses (ii) or (iii) above is primarily engaged in a Related Business. "Affiliate" of any specified Person means any other Person, directly or indirectly, controlling or controlled by or under direct or indirect common control with such specified Person. For the purposes of this definition, "control" when used with respect to any Person means the power to direct the management and policies of such Person, directly or indirectly, whether through the ownership of voting securities, by contract or otherwise; and the terms "controlling" and "controlled" have meanings 128 49 correlative to the foregoing. For purposes of paragraphs (l)(iii) and (l)(v) only, "Affiliate" shall also mean any beneficial owner of Capital Stock representing 10% or more of the total voting power of the Voting Stock (on a fully diluted basis) of the Company or of rights or warrants to purchase such Capital Stock (whether or not currently exercisable) and any Person who would be an Affiliate of any such beneficial owner pursuant to the first sentence hereof. "Asset Swap" means an exchange of assets by the Company or any of its Restricted Subsidiaries for one or more Permitted Businesses, assets to be used in a Permitted Business, or for a controlling equity interest in any Person whose assets consist primarily of one or more Permitted Businesses. "Attributable Debt" in respect of a Sale/Leaseback Transaction means, as at the time of determination, the present value (discounted at the dividend rate borne by the Exchangeable Preferred Stock compounded annually) of the total obligations of the lessee for rental payments during the remaining term of the lease included in such Sale/Leaseback Transaction (including any period for which such lease has been extended). "Average Life" means, as of the date of determina tion, with respect to any Indebtedness or Preferred Stock, the quotient obtained by dividing (i) the sum of the products of the numbers of years from the date of determination to the dates of each successive scheduled principal payment of such Indebtedness or redemption or similar payment with respect to such Preferred Stock multi plied by the amount of such payment by (ii) the sum of all such payments. "Board of Directors" means the Board of Directors of the Company or any committee thereof duly authorized to act on behalf of such Board. "Business Day" means each day which is not a Legal Holiday. 129 50 "Capital Lease Obligations" means an obligation that is required to be classified and accounted for as a capital lease for financial reporting purposes in accordance with GAAP, and the amount of Indebtedness represented by such obligation shall be the capitalized amount of such obligation determined in accordance with GAAP; and the Stated Maturity thereof shall be the date of the last payment of rent or any other amount due under such lease prior to the first date upon which such lease may be terminated by the lessee without payment of a penalty. "Capital Stock" of any Person means any and all shares, rights to purchase, warrants, options, participations or other equivalents of or interests in (however designated) equity of such Person, including any Preferred Stock, but excluding any debt securities convertible into or exchangeable for such equity. "Change of Control" means the occurrence of any of the following events: (i) any "person" (as such term is used in Sections 13(d) and 14(d) of the Exchange Act), other than one or more Permitted Holders, is or becomes the beneficial owner (as defined in Rules 13d-3 and 13d-5 under the Exchange Act, except that for purposes of this clause (i) such person shall be deemed to have "beneficial ownership" of all shares that any such person has the right to acquire, whether such right is exercisable immediately or only after the passage of time, and except that any person that is deemed to have beneficial ownership of shares solely as a result of being part of a group pursuant to Rule 13d-5(b)(1) shall not be deemed to have beneficial ownership of any shares held by a Permitted Holder forming a part of such group), directly or indirectly, of more than 50% of the total voting power of the Voting Stock of the Company (for the purposes of this clause (i), such other person shall be deemed to beneficially own any Voting Stock of a specified corporation held by a parent corporation, if such other person is the beneficial owner (as defined in this clause (i)), directly or indirectly, of more than 35% of the voting 130 51 power of the Voting Stock of such parent corporation and the Permitted Holders beneficially own (as defined in Rules 13d-3 and 13d-5 under the Exchange Act), directly or indirectly, in the aggregate a lesser percentage of the voting power of the Voting Stock of such parent corporation and do not have the right or ability by voting power, contract or otherwise to elect or designate for election a majority of the board of directors of such parent corporation); (ii) during any period of two consecutive years, individuals who at the beginning of such period constituted the Board of Directors (together with any new directors whose election by such Board of Directors or whose nomination for election by the shareholders of the Company was approved by a vote of a majority of the directors of the Company then still in office who were either directors at the beginning of such period or whose election or nomination for election was previously so approved) cease for any reason to constitute a majority of the Board of Directors then in office; provided, however, that any directors elected by holders of Preferred Stock of the Company pursuant to any voting rights provisions included in the certificate of designation relating to such Preferred Stock shall be excluded in making any determination pursuant to this clause (ii); or (iii) the merger or consolidation of the Company with or into another Person or the merger of another Person with or into the Company, or the sale of all or substantially all the assets of the Company to another Person (other than a Person that is controlled by the Permitted Holders), and, in the case of any such merger or consolidation, the securities of the Company that are outstanding immediately prior to such transaction and which represent 100% of the aggregate voting power of the Voting Stock of the Company are changed into or exchanged for cash, securities or property, unless pursuant to such transaction such securities are changed into or exchanged for, in addition to any other consideration, securities of the surviving corporation that represent immediately after such transaction, at 131 52 least a majority of the aggregate voting power of the Voting Stock of the surviving corporation. Notwithstanding the foregoing, a Change of Control shall not be deemed to have occurred if, after such event that otherwise would constitute a Change of Control, the Securities are rated Investment Grade by Moody's or Standard & Poor's on the 30th day following the event that otherwise would constitute a Change of Control (the "Change of Control Determination Date"); provided, however, that to the extent there is a "rating watch" with respect to the Exchangeable Preferred Stock or other rating agency review on such 30th day, then the Change of Control Determination Date shall be the first Business Day thereafter on which the Exchangeable Preferred Stock is not subject to a "rating watch" or other rating agency review by either Moody's or Standard & Poor's. The term "Investment Grade", for such purpose, means a rating of Baa3 or higher in the case of Moody's, or BBB- or higher in the case of Standard & Poor's. "Code" means the Internal Revenue Code of 1986, as amended. "Company" means the party named as such in this Certificate of Designation until a successor replaces it and, thereafter, means the successor. "Consolidated Capital Ratio" of any Person as of any date means the ratio of (i) the aggregate consolidated principal amount of Indebtedness of such Person then outstanding to (ii) the greater of either (a) the aggregate consolidated paid-in capital of such Person as of such date or (b) the stockholders' equity as of such date as shown on the consolidated balance sheet of such Person determined in accordance with GAAP. "Consolidated Interest Expense" means, for any period, the total interest expense of the Company and its consolidated Restricted Subsidiaries, plus, to the extent not included in such total interest expense, and to the extent incurred by the Company or its Restricted Subsidiaries, without duplication, (i) interest expense attributable to capital leases and the interest expense 132 53 attributable to leases constituting part of a Sale/Leaseback Transaction, (ii) amortization of debt discount and debt issuance cost, (iii) capitalized interest, (iv) noncash interest expenses, (v) commissions, discounts and other fees and charges owed with respect to letters of credit and bankers' acceptance financing, (vi) net costs associated with Hedging Obligations (including amortization of fees), (vii) Preferred Stock dividends in respect of all (A) Preferred Stock of Restricted Subsidiaries and (B) Preferred Stock of the Company that is Disqualified Stock, in each case held by Persons other than the Company or a Restricted Subsidiary, (viii) interest incurred in connection with Investments in discontinued operations, (ix) interest accruing on any Indebtedness of any other Person to the extent such Indebtedness is Guaranteed by (or secured by the assets of) the Company or any Restricted Subsidiary and (x) the cash contributions to any employee stock ownership plan or similar trust to the extent such contributions are used by such plan or trust to pay interest or fees to any Person (other than the Company) in connection with Indebtedness Incurred by such plan or trust. "Consolidated Net Income" means, for any period, the net income of the Company and its consolidated Subsidi aries; provided, however, that there shall not be included in such Consolidated Net Income: (i) any net income of any Person (other than the Company) if such Person is not a Restricted Subsidiary, except that subject to the exclusion contained in clause (iv) below, the net income of any such Person for such period shall be included in such Consolidated Net Income up to the aggregate amount of cash actually distributed by such Person during such period to the Company or a Restricted Subsidiary as a dividend or other distribution (subject, in the case of a dividend or other distribution paid to a Restricted Subsidiary, to the limitations contained in clause (iii) below); (ii) any net income (or loss) of any Person acquired by the Company or a Subsidiary in a pooling of interests transaction for any period prior to the date of such acquisition; 133 54 (iii) any net income of any Restricted Subsidiary if such Restricted Subsidiary is subject to restrictions, directly or indirectly, on the payment of dividends or the making of distributions by such Restricted Subsidiary, directly or indirectly, to the Company, except that subject to the exclusion contained in clause (iv) below, the net income of any such Restricted Subsidiary for such period shall be included in such Consolidated Net Income up to the aggregate amount of cash actually distributed by such Restricted Subsidiary during such period to the Company or another Restricted Subsidiary as a dividend or other distribution (subject, in the case of a dividend or other distribution paid to another Restricted Subsidiary, to the limitation contained in this clause); (iv) any gain (but not loss) realized upon the sale or other disposition of any assets of the Company, its consolidated Subsidiaries or any other Person (including pursuant to any sale-and-leaseback arrangement) which is not sold or otherwise disposed of in the ordinary course of business and any gain (but not loss) realized upon the sale or other disposition of any Capital Stock of any Person; (v) extraordinary gains or losses; and (vi) the cumulative effect of a change in account ing principles. Notwithstanding the foregoing, for the purpose of paragraph (l)(iii) only, there shall be excluded from Consolidated Net Income any dividends, repayments of loans or advances or other transfers of assets from any Person (including any Unrestricted Subsidiary) to the Company or a Restricted Subsidiary to the extent such dividends, repayments or transfers increase the amount of Restricted Payments permitted under paragraph (l)(iii) (A)(3)(IV) thereof. "Consolidated Net Worth" means, with respect to any Person as of any date, the sum of: (i) the consolidated 134 55 equity of the common stockholders of such Person and its consolidated Subsidiaries as of such date plus (ii) the respective amounts reported on such Person's balance sheet as of such date with respect to any series of preferred stock (other than Disqualified Stock) that by its terms is not entitled to the payment of dividends unless such dividends may be declared and paid only out of net earnings in respect of the year of such declaration and payment, but only to the extent of any cash received by such Person upon issuance of such preferred stock, less (x) all write-ups (other than write-ups resulting from foreign currency translations and write-ups of tangible assets of a going concern business made within 12 months after the acquisition of such business) subsequent to the Issue Date in the book value of any asset owned by such Person or a consolidated Subsidiary of such Person, (y) all investments as of such date in unconsolidated Subsidiaries and in Persons that are not Subsidiaries (except, in each case, Permitted Investments), and (z) all unamortized debt discount and expense and unamortized deferred charges as of such date, as determined in accordance with GAAP. "Consolidated Tangible Assets" means, with respect to any Person as of any date, the sum of the consolidated gross book value as reflected in accounting books and records of such Person of all its property, both real and personal, less (i) the net book value of all its licenses, patents, patent applications, copyrights, trademarks, tradenames, goodwill, non-compete agreements or organizational expenses and other like intangibles, (ii) unamortized debt discount and expenses, (iii) all reserves for depreciation, obsolescence, depletion and amortization of its properties and (iv) all other proper reserves which should be provided in connection with the business conducted by such Person, all of the foregoing as determined in accordance with GAAP. "Convertible Preferred Stock" means the Company's 7 1/4% Junior Convertible Preferred Stock Due 2007. "Credit Agreements" means one or more debt facilities or commercial paper facilities with banks or other institutional lenders providing for revolving credit 135 56 loans, term loans, receivables financing (including through the sale of receivables to such lenders or to special purpose entities formed to borrow from such lenders against such receivables) or letters of credit, in each case, as amended, restated, modified, renewed, refunded, replaced or refinanced in whole or in part from time to time. "Cumulative Consolidated Interest Expense" means, with respect to any Person, as of any date of determination, Consolidated Interest Expense for the period (taken as one accounting period) from the beginning of the first fiscal quarter commencing after the Issue Date to the end of such Person's most recently ended fiscal quarter for which internal financial statements are available at such date of determination. "Cumulative Operating Cash Flow" means, as of any date of determination, Operating Cash Flow for the Company and its Restricted Subsidiaries for the period (taken as one accounting period) from the beginning of the first fiscal quarter commencing after the Issue Date to the end of the Company's most recently ended fiscal quarter for which internal financial statements are available at such date of determination. "Currency Agreement" means in respect of a Person any foreign exchange contract, currency swap agreement or other similar agreement designed to protect such Person against fluctuations in currency values. "Default" means any event which is, or after notice or passage of time or both would be, a Voting Rights Triggering Event. "Disqualified Stock" means, with respect to any Person, any Capital Stock which by its terms (or by the terms of any security into which it is convertible or for which it is exchangeable) or upon the happening of any event (i) matures or is mandatorily redeemable pursuant to a sinking fund obligation or otherwise, (ii) is convertible or exchangeable for Indebtedness or Disqualified Stock or (iii) is redeemable at the option of the holder thereof, in whole or in part, in each case on or prior to the first 136 57 anniversary of the Stated Maturity of the Exchangeable Preferred Stock; provided, however, that any Capital Stock that would not constitute Disqualified Stock but for provisions thereof giving holders thereof the right to require such Person to repurchase or redeem such Capital Stock upon the occurrence of an "asset sale" or "change of control" occurring prior to the first anniversary of the Stated Maturity of the Securities shall not constitute Disqualified Stock if the "asset sale" or "change of control" provisions applicable to such Capital Stock are not more favorable to the holders of such Capital Stock than the comparable provisions of the Exchange Indenture; provided further, however, that the Company's Convertible Preferred Stock outstanding on the Issue Date (and any shares of Convertible Preferred Stock issued as payment of a dividend on Convertible Preferred Stock) shall be deemed not to constitute Disqualified Stock. "Exchange Act" means the Securities Exchange Act of 1934, as amended. "Exchange Date" means the date on which the Securities are exchanged for the Exchangeable Preferred Stock. "Exchange Debentures" means the debentures issuable pursuant to the Exchange Indenture. "Exchange Offer Registration Statement" means a registration statement filed with the SEC with respect to a Registered Exchange Offer. "Exchange Indenture" means the Indenture dated as of August 15, 1997, by and between the Company and The Bank of New York, as Trustee, governing the Exchange Debentures. "Excluded PSINet Transactions" means any transaction between the Company or any of its Restricted Subsidiaries with PSINet Inc., so long as at the time of engaging in, or contracting to engage in, such transaction, the Company and its Subsidiaries have not acquired shares of PSINet Common Stock other than the PSINet Shares. 137 58 "GAAP" means generally accepted accounting principles in the United States of America as in effect as of the Issue Date, including those set forth in (i) the opinions and pronouncements of the Accounting Principles Board of the American Institute of Certified Public Accountants, (ii) statements and pronouncements of the Financial Accounting Standards Board, (iii) such other statements by such other entity as approved by a significant segment of the accounting profession and (iv) the rules and regulations of the SEC governing the inclusion of financial statements (including pro forma financial statements) in periodic reports required to be filed pursuant to Section 13 of the Exchange Act, including opinions and pronouncements in staff accounting bulletins and similar written statements from the accounting staff of the SEC. All ratios and computations based on GAAP contained in this Certificate of Designation shall be computed in conformity with GAAP. "GE Capital Communications" means GE Capital Communications Services Corporation. "Guarantee" means any obligation, contingent or otherwise, of any Person directly or indirectly guaranteeing any Indebtedness of any Person and any obligation, direct or indirect, contingent or otherwise, of such Person (i) to purchase or pay (or advance or supply funds for the purchase or payment of) such Indebtedness of such Person or (ii) entered into for the purpose of assuring in any other manner the obligee of such Indebtedness of the payment thereof or to protect such obligee against loss in respect thereof (in whole or in part); provided, however, that the term "Guarantee" shall not include endorsements for collection or deposit in the ordinary course of business. The term "Guarantee" used as a verb has a corresponding meaning. "Hedging Obligations" of any Person means the obligations of such Person pursuant to any Interest Rate Agreement or Currency Agreement. "Holder" means the Person in whose name a share of Exchangeable Preferred Stock is registered on the Transfer Agent's books. 138 59 "Incur" means issue, assume, Guarantee, incur or otherwise become liable for; provided, however, that any Indebtedness or Capital Stock of a Person existing at the time such Person becomes a Subsidiary (whether by merger, consolidation, acquisition or otherwise) shall be deemed to be Incurred by such Subsidiary at the time it becomes a Subsidiary. The term "Incurrence" when used as a noun shall have a correlative meaning. The accretion of principal of a non-interest bearing or other discount security shall be deemed the Incurrence of Indebtedness. "Indebtedness" means, with respect to any Person on any date of determination (without duplication): (i) the principal in respect of (A) indebtedness of such Person for money borrowed and (B) indebtedness evidenced by securities, debentures, bonds or other similar instruments for the payment of which such Person is responsible or liable, including, in each case, any premium on such indebtedness to the extent such premium has become due and payable; (ii) all Capital Lease Obligations of such Person and all Attributable Debt in respect of Sale/Leaseback Transactions entered into by such Person; (iii) all obligations of such Person issued or assumed as the deferred purchase price of property, and all obligations of such Person under any title retention agreement (but excluding trade accounts payable arising in the ordinary course of business); (iv) all obligations of such Person for the reimbursement of any obligor on any letter of credit, banker's acceptance or similar credit transaction (other than obligations with respect to letters of credit securing obligations (other than obligations described in clauses (i) through (iii) above) entered into in the ordinary course of business of such Person to the extent such letters of credit are not drawn upon or, if and to the extent drawn upon, such drawing is reimbursed no later than the tenth Business Day following payment on the letter of credit); 139 60 (v) the amount of all obligations of such Person with respect to the redemption, repayment or other repurchase of any Disqualified Stock or, with respect to any Subsidiary of such Person, the liquidation preference with respect to, any Preferred Stock (but excluding, in each case, any accrued dividends) of such Subsidiary (which will constitute Indebtedness Incurred by such Subsidiary and not Indebtedness Incurred by such Person); (vi) all obligations of the type referred to in clauses (i) through (v) of other Persons and all dividends of other Persons for the payment of which, in either case, such Person is responsible or liable, directly or indirectly, as obligor, guarantor or otherwise, including by means of any Guarantee; (vii) all obligations of the type referred to in clauses (i) through (vi) of other Persons secured by any Lien on any property or asset of such Person (whether or not such obligation is assumed by such Person), the amount of such obligation being deemed to be the lesser of the value of such property or assets or the amount of the obligation so secured; and (viii) to the extent not otherwise included in this definition, Hedging Obligations of such Person. The amount of Indebtedness of any Person at any date shall be the outstanding balance at such date of all unconditional obligations as described above and the maximum liability, upon the occurrence of the contingency giving rise to the obligation, of any contingent obligations at such date. "Indebtedness to Operating Cash Flow Ratio" means, as of any date of determination, the ratio of (a) the aggregate principal amount of all outstanding Indebtedness of a Person and its Restricted Subsidiaries as of such date on a consolidated basis, plus the aggregate liquidation preference of all outstanding Preferred Stock of the Restricted Subsidiaries of such Person as of such date (excluding any such Preferred Stock held by such Person or a Wholly Owned Restricted Subsidiary of such Person), plus the 140 61 aggregate liquidation preference or redemption amount of all Disqualified Stock of such Person (excluding any Disqualified Stock held by such Person or a Wholly Owned Restricted Subsidiary of such Person) as of such date to (b) Operating Cash Flow of such Person and its Restricted Subsidiaries for the most recent four-quarter period for which internal financial statements are available, determined on a pro forma basis after giving effect to all acquisitions and dispositions of assets (notwithstanding clause (ii) of the definition of "Consolidated Net Income" and including Asset Swaps) made by such Person and its Restricted Subsidiaries since the beginning of such four-quarter period through such date as if such acquisitions and dispositions had occurred at the beginning of such four-quarter period through such date as if such acquisitions and dispositions had occurred at the beginning of such four-quarter period. "Independent Financial Advisor" means a United States investment banking firm of national standing in the United States which does not, and whose directors, officers and employees or affiliates do not, have a direct or indirect financial interest in the Company. "Interest Rate Agreement" means in respect of a Person any interest rate swap agreement, interest rate cap agreement or other financial agreement or arrangement designed to protect such Person against fluctuations in interest rates. "Investment" in any Person means any direct or indirect advance, loan or any other extensions of credit (other than advances, loans or other extensions of credit to customers in the ordinary course of business that are recorded as accounts receivable on the balance sheet of the lender and other than commission, travel, relocation and similar advances to directors, officers and employees made in the ordinary course of business) (including by way of Guarantee or similar arrangement) or capital contribution to any Person (by means of any transfer of cash or other property to others or any payment for property or services for the account or use of such Person), or any purchase or acquisition of Capital Stock, Indebtedness or other similar 141 62 instruments issued by such Person. For purposes of the definition of "Unrestricted Subsidiary," the definition of "Restricted Payment" and paragraph (l)(iii), (i) "Investment" shall include the portion (proportionate to the Company's equity interest in such Subsidiary) of the fair market value of the net assets of any Subsidiary of the Company at the time that such Subsidiary is designated an Unrestricted Subsidiary; provided, however, that upon a redesignation of such Subsidiary as a Restricted Subsidiary, the Company shall be deemed to continue to have a permanent "Investment" in an Unrestricted Subsidiary equal to an amount (if positive) equal to (x) the Company's "Investment" in such Subsidiary at the time of such redesignation less (y) the portion (proportionate to the Company's equity interest in such Subsidiary) of the fair market value of the net assets of such Subsidiary at the time of such redesignation; and (ii) any property transferred to or from an Unrestricted Subsidiary shall be valued at its fair market value at the time of such transfer, in each case as determined in good faith by the Board of Directors; provided further, however, that an acquisition of assets, Capital Stock or other securities by the Company or any of its Restricted Subsidiaries shall not be deemed to be an Investment to the extent the consideration for such Capital Stock or other securities consists of common equity securities of the Company. "IRU" means an indefeasible right to use fiber or telecommunications capacity. "IRU Agreement" means an agreement pursuant to which an interest in an IRU is sold or leased or otherwise transferred. "Issue Date" means the date on which the Initial Exchangeable Preferred Stock is originally issued. "IXC Internet Capital Contribution" means the contribution by the Company to IXC Internet Services, Inc. (so long as IXC Internet Services, Inc. is a Subsidiary) of $10 million in cash, an IRU in two excess fibers in the Company's network (including two fibers in network routes to be built or acquired in the future) and space in certain points of 142 63 presence, in each case as contemplated in connection with the transactions contemplated by the PSINet Agreement. "Legal Holiday" means a Saturday, a Sunday or a day on which banking institutions are not required to be open in the State of New York. "Lien" means any mortgage, pledge, security interest, encumbrance, lien or charge of any kind (including any conditional sale or other title retention agreement or lease in the nature thereof). "Moody's" means Moody's Investors Service, Inc. or its successor. "Net Cash Proceeds", with respect to any issuance or sale of Capital Stock, means the cash proceeds of such issuance or sale net of attorneys' fees, accountants' fees, underwriters' or placement agents' fees, discounts or commissions and brokerage, consultant and other fees actually incurred in connection with such issuance or sale and net of taxes paid or payable as a result thereof. "Officer" means the Chairman of the Board, the President, any Vice President, the Treasurer or the Secretary of the Company. "Officers' Certificate" means a certificate signed by two Officers. "Operating Cash Flow" means, with respect to any Person for any period, the Consolidated Net Income of such Person for such period, (A) plus (i) extraordinary net losses, net losses on sales of assets outside the ordinary course of business during such period and noncash charges relating to write-downs of property and equipment, to the extent such losses and charges were deducted in computing such Consolidated Net Income, plus (ii) provision for taxes based on income or profits, to the extent such provision for taxes was included in computing such Consolidated Net Income, and any provision for taxes utilized in computing the net losses under clause (i) hereof, plus (iii) Consolidated Interest Expense of such Person and its 143 64 Restricted Subsidiaries for such period, to the extent that any such expense was deducted in computing such Consolidated Net Income, plus (iv) depreciation, amortization (including amortization of goodwill and other intangibles but excluding amortization of prepaid cash expenses that were paid in a prior period) and other noncash charges (excluding any such noncash charge to the extent that it represents an accrual of or reserve for cash charges in any future period or amortization of a prepaid cash expense that was paid in a prior period) of such Person and its Restricted Subsidiaries for such period to the extent that such depreciation, amortization and other noncash charges were deducted in computing such Consolidated Net Income and (B) less all noncash income for such period (excluding any such noncash income to the extent it represents an accrual of cash income in any future period or amortization of cash income received in a period). Notwithstanding the foregoing, the provision for taxes on the income or profits of, and the depreciation and amortization and other noncash charges of, a Restricted Subsidiary of the referent Person shall be added to Consolidated Net Income to compute Operating Cash Flow only to the extent (and in the same proportion) that the net income of such Restricted Subsidiary was included in calculating the Consolidated Net Income of such Person for such period and only if and to the extent such Restricted Subsidiary could have paid such amount at the date of determination as a dividend or similar distribution to the referent Person by such Restricted Subsidiary without prior governmental approval (that has not been obtained), pursuant to the terms of its charter and all agreements, instruments, judgments, decrees, orders, statutes, rules and governmental regulations applicable to that Restricted Subsidiary or its stockholders. "Opinion of Counsel" means a written opinion from legal counsel who is acceptable to the Trustee. The counsel may be an employee of or counsel to the Company or the Trustee. "Permitted Business" means (i) any communications business and (ii) any business reasonably related or ancillary thereto. 144 65 "Permitted Holders" means the officers and directors of the Company, and Trustees of General Electric Pension Trust, Grumman Hill Associates, Inc. and Grumman Hill Investments, L.P., and each of their respective officers and directors and their Related Parties. "Permitted Investment" means an Investment by the Company or any Restricted Subsidiary in (i) the Company, a Restricted Subsidiary or a Person that will, upon the making of such Investment, become a Restricted Subsidiary; provided, however, that the primary business of such Restricted Subsidiary is a Related Business; (ii) another Person if as a result of such Investment such other Person is merged or consolidated with or into, or transfers or conveys all or substantially all its assets to, the Company or a Restricted Subsidiary; provided, however, that such Person's primary business is a Related Business; (iii) Temporary Cash Investments; (iv) receivables owing to the Company or any Restricted Subsidiary if created or acquired in the ordinary course of business and payable or dischargeable in accordance with customary trade terms; provided, however, that such trade terms may include such concessionary trade terms as the Company or any such Restricted Subsidiary deems reasonable under the circumstances; (v) payroll, travel, commission and similar advances to cover matters that are expected at the time of such advances ultimately to be treated as expenses for accounting purposes and that are made in the ordinary course of business; (vi) loans or advances to employees made in the ordinary course of business consistent with past practices of the Company or such Restricted Subsidiary; (vii) stock, obligations or securities received in settlement of debts created in the ordinary course of business and owing to the Company or any Restricted Subsidiary or in satisfaction of judgments; (viii) the IXC Internet Capital Contribution; (ix) the Investment in PSINet Inc. contemplated by the PSINet Agreement, including the Investment in shares of PSINet Common Stock purchased pursuant to the PSINet Agreement and the $240 million value protection right provided for by the PSINet Agreement; and (x) other Investments in any Person that in the aggregate do not exceed $30 million (without regard to increases and decreases in the value of the Investments). 145 66 "Permitted PSINet Non-Recourse Debt" means Indebtedness where (i) the holders of such Indebtedness expressly agree that they will look solely to the shares of PSINet Common Stock held by the issuer of such Indebtedness for payment on or in respect of such Indebtedness and expressly waive any recourse they may have on or with respect to such Indebtedness to the Company or any Restricted Subsidiary, (ii) neither the Company nor any Restricted Subsidiary (A) provides credit support (whether or not in the form of an undertaking, agreement or instrument which would constitute Indebtedness), other than the pledge by the issuer of such Indebtedness of shares of PSINet Common Stock, or (B) is directly or indirectly liable and (iii) no default with respect to such Indebtedness (including any rights which the holders thereof may have to take enforcement action against the shares of PSINet Common Stock securing such Indebtedness) would permit (upon notice, lapse of time or both) any holder of any other Indebtedness of the Company or any Restricted Subsidiary to declare a default on such other Indebtedness or cause the payment thereof to be accelerated or payable prior to its stated maturity. "Person" means any individual, corporation, partnership, limited liability company, joint venture, association, joint-stock company, trust, unincorporated organization, government or any agency or political subdivision thereof or any other entity. "Preferred Stock", as applied to the Capital Stock of any Person, means Capital Stock of any class or classes (however designated) which is preferred as to the payment of dividends or distributions, or as to the distribution of assets upon any voluntary or involuntary liquidation or dissolution of such Person, over shares of Capital Stock of any other class of such Person. "principal" of any debt security means the principal of the Security plus the premium, if any, payable on the Security which is due or overdue or is to become due at the relevant time. 146 67 "PSINet Agreement" means the IRU and Stock Purchase Agreement dated as of July 22, 1997, between IXC Internet Services, Inc. and PSINet Inc. and the related documents executed in connection therewith, in each case as in effect as of the Issue Date. "PSINet Common Stock" means the common stock of PSINet, Inc. "PSINet Shares" means the shares of PSINet Common Stock acquired by the Company or any Subsidiary pursuant to the terms of the PSINet Agreement. "Public Equity Offering" means an underwritten primary public offering of common stock of the Company pursuant to an effective registration statement under the Securities Act. "Refinance" means, in respect of any Indebtedness, to refinance, extend, renew, refund, repay, prepay, redeem, defease or retire, or to issue other Indebtedness in exchange or replacement for, such indebtedness. "Refinanced" and "Refinancing" shall have correlative meanings. "Refinancing Indebtedness" means Indebtedness that Refinances any Indebtedness of the Company or any Restricted Subsidiary existing on the Issue Date or Incurred in compliance with this Certificate of Designation, including Indebtedness that Refinances Refinancing Indebtedness; provided, however, that (i) such Refinancing Indebtedness has a Stated Maturity no earlier than the Stated Maturity of the Indebtedness being Refinanced, (ii) such Refinancing Indebtedness has an Average Life at the time such Refinancing Indebtedness is Incurred that is equal to or greater than the Average Life of the Indebtedness being Refinanced and (iii) such Refinancing Indebtedness has an aggregate principal amount (or if Incurred with original issue discount, an aggregate issue price) that is equal to or less than the aggregate principal amount (or if Incurred with original issue discount, the aggregate accreted value) then outstanding or committed (plus accrued interest on the principal amount of Indebtedness Refinanced, and fees and 147 68 expenses, including any premium and defeasance costs) under the Indebtedness being Refinanced; provided further, however, that Refinancing Indebtedness shall not include (x) Indebtedness of a Subsidiary that Refinances Indebtedness of the Company (unless such Subsidiary was obligated under, or a guarantor of, the Indebtedness being Refinanced) or (y) Indebtedness of the Company or a Restricted Subsidiary that Refinances Indebtedness of an Unrestricted Subsidiary. "Registered Exchange Offer" means the offer by the Company, pursuant to the Registration Rights Agreement, to holders of Initial Exchangeable Preferred Stock to issue and deliver to such holders, in exchange for the Initial Exchangeable Preferred Stock, a like aggregate liquidation preference of Series B Stock registered under the Securities Act. "Registration Rights Agreement" means the Registration Rights Agreement dated August 14, 1997, among the Company and Credit Suisse First Boston Corporation, Merrill Lynch, Pierce, Fenner & Smith Incorporated and Morgan Stanley and Co. Incorporated. "Related Business" means any Permitted Business, the businesses conducted by the Company and the Restricted Subsidiaries on the Issue Date and any business related, ancillary or complementary to such businesses conducted by the Company and the Restricted Subsidiaries on the Issue Date. "Related Party" with respect to any Permitted Holder means (i) any controlling stockholder, 80% (or more) owned Subsidiary, or spouse or immediate family member (in the case of an individual) of such Principal or (ii) any trust, corporation, partnership or other entity, the beneficiaries, stockholders, partners, owners or Persons beneficially holding an 80% or more controlling interest of which consist of such Permitted Holder or such other Persons referred to in the immediately preceding clause (i). 148 69 "Representative" means any trustee, agent or representative (if any) for an issue of Senior Indebtedness of the Company. "Restricted Payment" with respect to any Person means (i) the declaration or payment of any dividends or any other distributions of any sort in respect of, in the case of the Company, any Junior Stock or, in the case of any Restricted Subsidiary, any Capital Stock (including any payment in connection with any merger or consolidation involving such Person) or similar payment to the direct or indirect holders of such Stock (other than dividends or distributions payable solely in Junior Stock (other than Disqualified Stock) and dividends or distributions to the extent paid to the Company or a Restricted Subsidiary, and other than pro rata dividends or other distributions made by a Subsidiary that is not a Wholly Owned Restricted Subsidiary to minority stockholders (or owners of an equivalent interest in the case of a Subsidiary that is an entity other than a corporation)), (ii) the purchase, redemption or other acquisition or retirement for value of any Junior Stock of the Company or Capital Stock of any direct or indirect parent of the Company or (iii) the making of any Investment in any Person (other than a Permitted Investment). "Restricted Subsidiary" means any Subsidiary of the Company that is not an Unrestricted Subsidiary. "Sale/Leaseback Transaction" means an arrangement relating to property now owned or hereafter acquired whereby the Company or a Restricted Subsidiary transfers such property to a Person and the Company or a Restricted Subsidiary leases it from such Person. "SEC" means the Securities and Exchange Commission. "Secured Indebtedness" means any Indebtedness of the Company secured by a Lien. "Senior Notes" means the Company's 12 1/2% Senior Notes Due 2005. 149 70 "Series 3 Preferred Stock" means the Company's 10% Junior Series 3 Cumulative Redeemable Preferred Stock. "Shelf Registration Statement" means a registration statement filed with the SEC covering resales of Exchangeable Preferred Stock. "Significant Subsidiary" means any Restricted Subsidiary that would be a "Significant Subsidiary" of the Company within the meaning of Rule 1-02 under Regulation S-X promulgated by the SEC. "Standard & Poor's" means Standard & Poor's Ratings Group, or its successor. "Stated Maturity" means, with respect to any security, the date specified in such security as the fixed date on which the final payment of principal of such security is due and payable, including pursuant to any mandatory redemption provision (but excluding any provision providing for the repurchase of such security at the option of the holder thereof upon the happening of any contingency unless such contingency has occurred). "Subordinated Indebtedness" means the Exchange Debentures and any other Indebtedness of the Company that specifically provides that such Indebtedness is to rank pari passu with the Exchange Debentures in right of payment and is not subordinated by its terms to any Indebtedness or other obligation of the Company which is not Senior Indebtedness (as defined in the Exchange Debenture). "Subordinated Obligation" means any Indebtedness of the Company (whether outstanding on the Issue Date or thereafter Incurred) which is subordinate or junior in right of payment to the Exchange Debentures pursuant to a written agreement to that effect. "Subsidiary" means, in respect of any Person, any corporation, association, partnership or other business entity of which more than 50% of the total voting power of shares of Capital Stock or other interests (including partnership interests) entitled (without regard to the 150 71 occurrence of any contingency) to vote in the election of directors, managers or trustees thereof is at the time owned or controlled, directly or indirectly, by (i) such Person, (ii) such Person and one or more Subsidiaries of such Person or (iii) one or more Subsidiaries of such Person. "Temporary Cash Investments" means any of the following: (i) any investment in direct obligations of the United States of America or any agency thereof or obligations guaranteed by the United States of America or any agency thereof, (ii) investments in time deposit accounts, certificates of deposit and money market deposits maturing within 180 days of the date of acquisition thereof issued by a bank or trust company which is organized under the laws of the United States of America, any state thereof or any foreign country recognized by the United States of America, and which bank or trust company has capital, surplus and undivided profits aggregating in excess of $50,000,000 (or the foreign currency equivalent thereof) and has outstanding debt which is rated "A" (or such similar equivalent rating) or higher by at least one nationally recognized statistical rating organization (as defined in Rule 436 under the Securities Act) or any money-market fund sponsored by a registered broker dealer or mutual fund distributor, (iii) repurchase obligations with a term of not more than 30 days for underlying securities of the types described in clause (i) above entered into with a bank meeting the qualifications described in clause (ii) above, (iv) investments in commercial paper, maturing not more than 90 days after the date of acquisition, issued by a corporation (other than an Affiliate of the Company) organized and in existence under the laws of the United States of America or any foreign country recognized by the United States of America with a rating at the time as of which any investment therein is made of "P-1" (or higher) according to Moody's Investors Service, Inc. or "A-1" (or higher) according to Standard and Poor's Ratings Group, and (v) investments in securities with maturities of six months or less from the date of acquisition issued or fully guaranteed by any state, commonwealth or territory of the United States of America, or by any political subdivision or taxing authority thereof, and rated at least "A" by Standard 151 72 & Poor's Ratings Group or "A" by Moody's Investors Service, Inc. "Trustee" means the party named as such in the Exchange Indenture until a successor replaces it and, thereafter, means the successor. "Trust Officer" means the Chairman of the Board, the President or any other officer or assistant officer of the Trustee assigned by the Trustee to administer its corporate trust matters. "Uniform Commercial Code" means the New York Uniform Commercial Code as in effect from time to time. "Unrestricted Subsidiary" means (i) any Subsidiary of the Company that at the time of determination shall be designated an Unrestricted Subsidiary by the Board of Directors in the manner provided below and (ii) any Subsidiary of an Unrestricted Subsidiary. The Board of Directors may designate any Subsidiary of the Company (including any newly acquired or newly formed Subsidiary) to be an Unrestricted Subsidiary unless such Subsidiary or any of its Subsidiaries owns any Capital Stock or Indebtedness of, or owns or holds any Lien (excluding Liens incurred to secure obligations in respect of an IRU) on any property of, the Company or any Restricted Subsidiary; provided, however, that either (A) the Subsidiary to be so designated has total assets of $1,000 or less or (B) if such Subsidiary has assets greater than $1,000, the Investment resulting from such designation would be permitted under paragraph (l)(iii). The Board of Directors may designate any Unrestricted Subsidiary to be a Restricted Subsidiary; provided, however, that immediately after giving effect to such designation (x) the Company could Incur $1.00 of additional Indebtedness under paragraph (l)(iii)(A) and (y) no Default shall have occurred and be continuing. Any such designation by the Board of Directors shall be evidenced to the Trustee by promptly filing with the Trustee a copy of the resolution of the Board of Directors giving effect to such designation and an Officers' Certificate certifying that such designation complied with the foregoing provisions. 152 73 "U.S. Government Obligations" means direct obligations (or certificates representing an ownership interest in such obligations) of the United States of America (including any agency or instrumentality thereof) for the payment of which the full faith and credit of the United States of America is pledged and which are not callable at the issuer's option. "Voting Stock" of a Person means all classes of Capital Stock or other interests (including partnership interests) of such Person then outstanding and normally entitled (without regard to the occurrence of any contingency) to vote in the election of directors, managers or trustees thereof. "Wholly Owned Restricted Subsidiary" means a Restricted Subsidiary all the Capital Stock of which (other than directors' qualifying shares) is owned by the Company or one or more Wholly Owned Subsidiaries. 153 IN WITNESS WHEREOF, said IXC Communications, Inc., has caused this Certificate of Designation to be signed by James F. Guthrie, its Chief Financial Officer and Executive Vice President, this 19th day of August, 1997. IXC COMMUNICATIONS, INC., By: /s/ JAMES F. GUTHRIE ---------------------------------- Name: James F. Guthrie Title: Chief Financial Officer and Executive Vice President 154 EXHIBIT A FORM OF EXCHANGEABLE PREFERRED STOCK FACE OF SECURITY [THIS SECURITY (OR ITS PREDECESSOR) WAS ORIGINALLY ISSUED IN A TRANSACTION EXEMPT FROM REGISTRATION UNDER THE UNITED STATES SECURITIES ACT OF 1933 (THE "SECURITIES ACT"), AND THIS SECURITY MAY NOT BE OFFERED, SOLD OR OTHERWISE TRANSFERRED IN THE ABSENCE OF SUCH REGISTRATION OR AN APPLICABLE EXEMPTION THEREFROM. EACH PURCHASER OF THIS SECURITY IS HEREBY NOTIFIED THAT THE SELLER OF THIS SECURITY MAY BE RELYING ON THE EXEMPTION FROM THE PROVISIONS OF SECTION 5 OF THE SECURITIES ACT PROVIDED BY RULE 144A THEREUNDER. THE HOLDER OF THIS SECURITY AGREES FOR THE BENEFIT OF THE ISSUER THAT (A) THIS SECURITY MAY BE OFFERED, RESOLD, PLEDGED OR OTHERWISE TRANSFERRED ONLY (i) TO A PERSON WHOM THE SELLER REASONABLY BELIEVES IS A "QUALIFIED INSTITUTIONAL BUYER" (AS DEFINED IN RULE 144A UNDER THE SECURITIES ACT) IN A TRANSACTION MEETING THE REQUIREMENTS OF RULE 144A, (II) IN AN OFFSHORE TRANSACTION IN ACCORDANCE WITH RULE 904 UNDER THE SECURITIES ACT, (iii) PURSUANT TO AN EXEMPTION FROM REGISTRATION UNDER THE SECURITIES ACT PROVIDED BY RULE 144 THEREUNDER (IF AVAILABLE), (iv) PURSUANT TO AN EFFECTIVE REGISTRATION STATEMENT UNDER THE SECURITIES ACT OR (v) TO THE ISSUER, IN EACH OF CASES (i) THROUGH (iv) IN ACCORDANCE WITH ANY APPLICABLE SECURITIES LAWS OF ANY STATE OF THE UNITED STATES, AND (B) THE HOLDER WILL, AND EACH SUBSEQUENT HOLDER IS REQUIRED TO, NOTIFY ANY PURCHASER OF THIS SECURITY FROM IT OF THE RESALE RESTRICTIONS REFERRED TO IN (A) ABOVE.]* [BY ITS ACQUISITION HEREOF, THE HOLDER REPRESENTS THAT (A) IT IS A "QUALIFIED INSTITUTIONAL BUYER" (AS DEFINED IN RULE 144A UNDER THE SECURITIES ACT) OR (B) IT IS NOT A U.S. PERSON AND IS ACQUIRING THIS SECURITY IN AN OFFSHORE TRANSACTION IN ACCORDANCE WITH REGULATION S.]*/ - -------- * Subject to removal upon registration under the Securities Act of 1933 or otherwise when the security shall no longer be a restricted security. 155 2 [UNLESS THIS CERTIFICATE IS PRESENTED BY AN AUTHORIZED REPRESENTATIVE OF THE DEPOSITORY TRUST COMPANY, A NEW YORK CORPORATION ("DTC"), NEW YORK, NEW YORK, TO THE COMPANY OR ITS AGENT FOR REGISTRATION OF TRANSFER, EXCHANGE OF PAYMENT, AND ANY CERTIFICATE ISSUED IS REGISTERED IN THE NAME OF CEDE & CO. OR SUCH OTHER NAME AS IS REQUESTED BY AN AUTHORIZED REPRESENTATIVE OF DTC (AND ANY PAYMENT IS MADE TO CEDE & CO., OR TO SUCH OTHER ENTITY AS IS REQUESTED BY AN AUTHORIZED REPRESENTATIVE OF DTC) ANY TRANSFER, PLEDGE OR OTHER USE HEREOF FOR VALUE OR OTHERWISE BY OR TO ANY PERSON IS WRONGFUL INASMUCH AS THE REGISTERED OWNER HEREOF, CEDE & CO. HAS AN INTEREST HEREIN.]** [TRANSFERS OF THIS GLOBAL SECURITY SHALL BE LIMITED TO TRANSFERS IN WHOLE, BUT NOT IN PART, TO NOMINEES OF DTC OR TO A SUCCESSOR THEREOF OR SUCH SUCCESSOR'S NOMINEE AND TRANSFERS OF PORTIONS OF THIS GLOBAL SECURITY SHALL BE LIMITED TO TRANSFERS MADE IN ACCORDANCE WITH THE RESTRICTIONS SET FORTH IN THE CERTIFICATE OF DESIGNATION REFERRED TO BELOW.]** Certificate Number Number of Shares of Convertible Preferred Stock [ ] [ ] CUSIP NO.: [ ] 12 1/2% Junior Exchangeable Preferred Stock Due 2009 (par value $0.01) (liquidation preference $1000 per share) of IXC Communications, Inc. IXC Communications, Inc., a Delaware corporation (the "Company"), hereby certifies that [ ] (the - -------- ** Subject to removal if not a global security. 156 3 "Holder") is the registered owner of fully paid and non-assessable preferred securities of the Company designated the 12 1/2% [Series B] Junior Exchangeable Preferred Stock Due 2009 (par value $0.01) (liquidation preference $1000 per share) (the "Exchangeable Preferred Stock"). The shares of Exchangeable Preferred Stock are transferable on the books and records of the Registrar, in person or by a duly authorized attorney, upon surrender of this certificate duly endorsed and in proper form for transfer. The designation, rights, privileges, restrictions, preferences and other terms and provisions of the Exchangeable Preferred Stock represented hereby are issued and shall in all respects be subject to the provisions of the Certificate of Designation dated August [ ], 1997, as the same may be amended from time to time (the "Certificate of Designation"). Capitalized terms used herein but not defined shall have the meaning given them in the Certificate of Designation. The ompany will provide a copy of the Certificate of Designation to a Holder without charge upon written request to the Company at its principal place of business. Reference is hereby made to select provisions of the Exchangeable Preferred Stock set forth on the reverse hereof, and to the Certificate of Designation, which select provisions and the Certificate of Designation shall for all purposes have the same effect as if set forth at this place. Upon receipt of this certificate, the Holder is bound by the Certificate of Designation and is entitled to the benefits thereunder. Unless the Transfer Agent's Certificate of Authentication hereon has been properly executed, these shares of Exchangeable Preferred Stock shall not be entitled to any benefit under the Certificate of Designation or be valid or obligatory for any purpose. IN WITNESS WHEREOF, the Company has executed this certificate this [ ] day of [ ], [ ]. IXC COMMUNICATIONS, INC., 157 4 By: ---------------------------------- Name: Title: [Seal] By: ---------------------------------- Name: Title: 158 5 TRANSFER AGENT'S CERTIFICATE OF AUTHENTICATION This is one of the Exchangeable Preferred Stock referred to in the within mentioned Certificate of Designation. Dated: [ ], [ ] THE BANK OF NEW YORK as Transfer Agent, By: ---------------------------------- Authorized Signatory 159 6 REVERSE OF SECURITY Dividends on each share of Exchangeable Preferred Stock shall be payable at a rate per annum set forth in the face hereof or as provided in the Certificate of Designation (including Additional Dividends). The shares of Exchangeable Preferred Stock shall be redeemable as provided in the Certificate of Designation. The shares of Exchangeable Preferred Stock shall be exchangeable at the Company's option into the Company's 12-1/2% Subordinated Exchange Debentures Due 2009 in the manner and according to the terms set forth in the Certificate of Designation. As required under Delaware law, the Company shall furnish to any Holder upon request and without charge, a full summary statement of the designations, voting rights preferences, limitations and special rights of the shares of each class or series authorized to be issued by the Company so far as they have been fixed and determined and the authority of the Board of Directors to fix and determine the designations, voting rights, preferences, limitations and special rights of the class and series of shares of the Company. 160 7 ASSIGNMENT FOR VALUE RECEIVED, the undersigned assigns and transfers the shares of Exchangeable Preferred Stock evidenced hereby to: --------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- (Insert assignee's social security or tax identification number) - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- (Insert address and zip code of assignee) and irrevocably appoints: - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- agent to transfer the shares of Exchangeable Preferred Stock evidenced hereby on the books of the Transfer Agent and Registrar. The agent may substitute another to act for him or her. Date: ----------------------- Signature: --------------------------------- (Sign exactly as your name appears on the other side of this Exchangeable Preferred Stock Certificate) Signature Guarantee:*** --- --------------------------------------------- - ------------------ *** (Signature must be guaranteed by an "eligible guarantor institution" that is, a bank, stockbroker, savings and loan association or credit union meeting the requirements of the Registrar, which requirements include membership or participation in the Securities Transfer Agents Medallion Program ("STAMP") or such other "signature 161 8 - ------------ guarantee program" as may be determined by the Registrar in addition to, or in substitution for, STAMP, all in accordance with the Securities Exchange Act of 1934, as amended.) 162 EXHIBIT B CERTIFICATE TO BE DELIVERED UPON EXCHANGE OR REGISTRATION OF TRANSFER OF EXCHANGEABLE PREFERRED STOCK Re: 12 1/2% Junior Exchangeable Preferred Stock Due 2009 (the "Exchangeable Preferred Stock") of IXC Communications, Inc. (the "Company") This Certificate relates to ____ shares of Exchangeable Preferred Stock held in [ ] */ book-entry or [ ] */ definitive form by _______________ (the "Transferor"). The Transferor*: [ ] has requested the Transfer Agent by written order to deliver in exchange for its beneficial interest in the Exchangeable Preferred Stock held by the depository shares of Exchangeable Preferred Stock in definitive, registered form equal to its beneficial interest in such Exchangeable Preferred Stock (or the portion thereof indicated above); or [ ] has requested the Transfer Agent by written order to exchange or register the transfer of Exchangeable Preferred Stock. In connection with such request and in respect of such Exchangeable Preferred Stock, the Transferor does hereby certify that the Transferor is familiar with the Certificate of Designation relating to the above captioned Exchangeable Preferred Stock and that the transfer of this Exchangeable Preferred Stock does not require registration under the Securities Act of 1933 (the "Securities Act") because */: [ ] Such Exchangeable Preferred Stock is being acquired for the Transferor's own account without transfer. [ ] Such Exchangeable Preferred Stock is being transferred to the Company. - -------- * /Please check applicable box. 163 2 [ ] Such Exchangeable Preferred Stock is being transferred (i) to a qualified institutional buyer (as defined in Rule 144A under the Securities Act), in reliance on Rule 144A or (ii) pursuant to an exemption from registration in accordance with Rule 904 under the Securities Act (and, in the case of clause (ii), based on an opinion of counsel if the Company so requests and together with a certification in substantially the form of Exhibit C to the Certificate of Designation). [ ] Such Exchangeable Preferred Stock is being transferred in reliance on and in compliance with another exemption from the registration requirements of the Securities Act (and based on an opinion of counsel if the Company so requests). [INSERT NAME OF TRANSFEROR] Date: by ------------------ ----------------------------------- 164 EXHIBIT C FORM OF CERTIFICATE TO BE DELIVERED IN CONNECTION WITH TRANSFERS PURSUANT TO REGULATION S ----------, ---- The Bank of New York Attention: [ ] Ladies and Gentlemen: In connection with our proposed sale of certain 12 1/2% Junior Exchangeable Preferred Stock Due 2009 (the "Exchangeable Preferred Stock") of IXC Communications, Inc., a Delaware corporation ("the "Company"), we represent that: (i) the offer of the Exchangeable Preferred Stock was not made to a person in the United States; (ii) at the time the buy order was originated, the transferee was outside the United States or we and any person acting on our behalf reasonably believed that the transferee was outside the United States; (iii) no directed selling efforts have been made by us in the United States in contravention of the requirements of Rule 903(b) or Rule 904(b) of Regulation S under the Securities Act of 1933 (the "Securities Act"), as applicable; and (iv) the transaction is not part of a plan or scheme by us to evade the registration requirements of the Securities Act. You and the Company are entitled to rely upon this letter and you are irrevocably authorized to produce this letter or a copy hereof to any interested party in any administrative or legal proceedings or official inquiry with 165 4 respect to the matters covered hereby. Terms used in this certificate have the meanings set forth in Regulation S. Very truly yours, --------------------------------------------- (Name of Transferor) by ------------------------------------------ Name: Title: Address: EX-4.13 3 FIRST SUPPLEMENTAL INDENTURE 1 EXHIBIT 4.13 FIRST SUPPLEMENTAL INDENTURE First Supplemental Indenture, dated as of October 23, 1997, by and among IXC Communications, Inc., a Delaware corporation (the "Company"), each of the Guarantors listed on the signature page hereto and IBJ Schroder Bank & Trust Company, as trustee (the "Trustee"), under the Indenture dated as of October 5, 1995, as amended by Amendment No. 1 to Indenture and Subsidiary Guaranty dated as of June 4, 1996 among the Company, the Guarantors listed on the signature pages thereto (the "Guarantors"), and the Trustee (as amended, the "Indenture") pursuant to which the Company's 12 1/2% Senior Notes due 2005 (the "Senior Notes") were issued. Capitalized terms used herein, but otherwise not defined herein, shall have the meanings given to such terms in the Indenture. WHEREAS, the Board of Directors of the Company has determined that it is in the best interests of the Company to authorize and approve an amendment to the Indenture, in accordance with subparagraph (d) of Section 9.01 of the Indenture, in order to add IXC International, Inc. ("IXC International" or the "New Guarantor ") as a Guarantor pursuant to the requirements of the Indenture; and WHEREAS, Section 9.01 of the Indenture provides, among other things, that the Company and the Trustee may amend or supplement the Indenture as provided herein without the consent of any Holder to make any change that would provide additional rights or benefits to the Holders of the Senior Notes or that does not adversely affect the legal rights thereunder of any Holder of the Senior Note; and WHEREAS, all acts and proceedings required by law, the Indenture and the charter documents of the Company necessary to constitute this First Supplemental Indenture as a valid and binding agreement for the uses and purposes herein set forth, in accordance with its terms, have been done and taken; and the execution and delivery of this First Supplemental Indenture by the Company and each of the Guarantors have been in all respects duly authorized; and WHEREAS, the Company has furnished the Trustee with (i) an Officers' Certificate and an Opinion of Counsel stating that the conditions precedent to the execution by the Trustee of this First Supplemental Indenture have been satisfied, (ii) resolutions of the Company, each of the Guarantors and IXC International, authorizing the execution of the First Supplemental Indenture, and (iii) a request of the Company. NOW, THEREFORE, each party hereto, for the equal and proportionate benefit of the other parties hereto and the Holders, are executing and delivering this First Supplemental Indenture. 2 Section 1. Guarantee by IXC International. For value received, IXC International agrees to become a party to the Indenture as a Guarantor under and pursuant to the provisions of the Indenture and hereby agrees to be bound by the terms and conditions set forth in the New Subsidiary Guarantee set forth in Exhibit A attached hereto. Section 2. Miscellaneous. a. Effect of First Supplemental Indenture. Upon the execution and delivery of this First Supplemental Indenture by the Company, the Guarantors and the Trustee, the Indenture shall be supplemented in accordance herewith, and this First Supplemental Indenture shall form a part of the Indenture for all purposes, and every Holder of Senior Notes heretofore or hereafter authenticated and delivered under the Indenture shall be bound hereby. b. Indenture Remains in Full Force and Effect. Except as supplemented hereby, all provisions in the Indenture shall remain in full force and effect. c. Ratification of Indenture. As amended by this First Supplemental Indenture, the Indenture is in all respects ratified and confirmed and, as so supplemented by this First Supplemental Indenture, shall be read, taken and construed as one and the same instrument. d. Confirmation and Preservation of Indenture. The Indenture as supplemented by this First Supplemental Indenture is in all respects confirmed and preserved. e. Conflict with Trust Indenture Act. If any provision of this First Supplemental Indenture limits, qualifies or conflicts with any provision of the TIA that is required under the TIA to be part of and govern any provision of this First Supplemental Indenture, the provision of the TIA shall control. If any provision of this First Supplemental Indenture modifies or excludes any provision of the TIA that may be so modified or excluded, the provision of the TIA shall be deemed to apply to the Indenture as so modified or to be excluded by this First Supplemental Indenture, as the case may be. f. Severability. In case any provision in this First Supplemental Indenture shall be invalid, illegal or unenforceable, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby. g. Headings. The Section headings of this First Supplemental Indenture have been inserted for convenience of reference only, are not to be considered a part of this First Supplemental Indenture and shall in no way modify or restrict any of the terms or provisions hereof. h. Benefits of First Supplemental Indenture, etc. Nothing in this First Supplemental Indenture or the Senior Notes, express or implied, shall give to any Person, other than - 2 - 3 the parties hereto and thereto and their successors hereunder and thereunder and the Holders of the Senior Notes, any benefit of any legal or equitable right, remedy or claim under the Indenture, this First Supplemental Indenture or the Senior Notes. i. Successors. All agreements of the Company and in this First Supplemental Indenture shall bind its successors. All agreements of the Trustee in this First Supplemental Indenture shall bind its successors. j. The Trustee. In entering into this First Supplemental Indenture, the Trustee shall be entitled to the benefit of every provision of the Indenture relating to the conduct or affecting the liability or affording protection to the Trustee. The Trustee shall not be responsible in any manner whatsoever for the recitals of fact herein, all of which are made by the Company and the Guarantors. k. Governing Law. The internal law of the State of New York shall govern and be used to construe this First Supplemental Indenture without regard to principals of conflict of laws thereof. l. Events of Default. To the extent provisions of the Indenture have been deleted by this First Supplemental Indenture, the Company is hereby relieved of its obligations under such provisions and such provisions shall not hereafter give rise to a Default or an Event of Default. To the extent provisions of the Indenture have been amended by this First Supplemental Indenture, a Default or an Event of Default may arise hereafter under such provisions only as amended. m. The Effective Date. This First Supplemental Indenture shall become a legally effective and binding instrument upon the execution and delivery hereof by all parties hereto. n. Counterparts. This First Supplemental Indenture may be executed in any number of counterparts and by the parties hereto in separate counterparts, each of which so executed shall be deemed to be an original, but all of such counterparts shall together constitute but one and the same agreement. - 3 - 4 IN WITNESS WHEREOF, the parties hereto have caused this First Supplemental Indenture to be executed by their respective officers, thereunto duly authorized and attested, all as of the day and year first above written. "Company" Attest: IXC COMMUNICATIONS, INC., By: /s/ Jeffrey C. Smith By: /s/ James F. Guthrie Name: Jeffrey C. Smith Name: James F. Guthrie ------------------------------- ------------------------------------ Title: Senior Vice President, Title: Executive Vice President and Chief General Counsel and Secretary Financial Officer "Guarantors" ATLANTIC STATES MICROWAVE TRANSMISSION COMPANY CENTRAL STATES MICROWAVE TRANSMISSION COMPANY TELCOM ENGINEERING, INC. TOWER COMMUNICATION SYSTEMS CORP. WEST TEXAS MICROWAVE COMPANY WESTERN STATES MICROWAVE TRANSMISSION COMPANY RIO GRANDE TRANSMISSION, INC. IXC CARRIER, INC. IXC LONG DISTANCE, INC. LINK NET INTERNATIONAL, INC. Attest: IXC INTERNATIONAL, INC. By: /s/ Jeffrey C. Smith By: /s/ James F. Guthrie ------------------------------- ------------------------------------ Name: Jeffrey C. Smith Name: James F. Guthrie Title: Senior Vice President, Title: Executive Vice President and Chief General Counsel and Secretary Financial Officer - 4 - 5 "Trustee" Attest: IBJ SCHRODER BANK & TRUST COMPANY By: /s/ Barbara McCluskey By: /s/ Terence Rawlins ------------------------------- ------------------------------------ Name: Barbara McCluskey Name: Terence Rawlins Title: Assistant Secretary Title: Assistance Vice President - 5 - 6 EXHIBIT A NEW SUBSIDIARY GUARANTEE The New Guarantor (which term includes any successors or assigns under the Indenture), agrees to irrevocably and unconditionally guaranteed on an unsecured basis (i) the due and punctual payment of the principal of, and premium and Liquidated Damages, if any, and interest on the Senior Notes, whether at stated maturity, by acceleration or otherwise, the due and punctual payment of interest on the overdue principal of, and premium if any, and (to the extent permitted by law) interest, and Liquidated Damages on any interest, if any, on the Senior Notes, and the due and punctual performance of all other obligations of the Company, to the Holders or the Trustee all in accordance with the terms set forth in the Indenture, (ii) in case of any extension of time of payment or renewal of any Senior Notes or any such other obligations, that the same will be promptly paid in full when due or performed in accordance with the terms of the extension or renewal, whether at stated maturity, by acceleration or otherwise, and (iii) the payment of any and all costs and expenses (including reasonable attorneys' fees) incurred by the Trustee or any Holder in enforcing any rights under this New Subsidiary Guarantee. The obligations of the New Guarantor to the Holders and to the Trustee pursuant to this New Subsidiary Guarantee and the Indenture are expressly set forth in Article 11 of the Indenture and reference is hereby made to such Indenture for the precise terms of this Guarantee. No stockholder, officer, director, or incorporator, as such, past, present or future of the New Guarantor shall have any liability under this New Subsidiary Guarantee by reason of his or its status as such stockholder, officer, director or incorporator. This is a continuing Guarantee and shall remain in full force and effect and shall be binding upon the each New Guarantor and its successors and assigns until full and final payment of all of the Company's obligations under the Senior Notes and Indenture and shall inure to the benefit of the successors and assigns of the Trustee and the Holders, and, in the event of any transfer or assignment of rights by any Holder or the Trustee, the rights and privileges herein conferred upon that party shall automatically extend to and be vested in such transferee or assignee, all subject to the terms and conditions hereof. This is a Guarantee of payment and not of collectibility. Any term or provision of this Guarantee to the contrary notwithstanding, the aggregate amount of the Obligations guaranteed hereunder shall be reduced to the extent necessary to prevent this Guarantee from violating or becoming voidable under applicable law relating to fraudulent conveyance or fraudulent transfer or similar laws affecting the rights of creditors generally. The Obligations of the New Guarantor under the New Subsidiary Guarantee pursuant to Article 11 of the Indenture shall be senior to the Indebtedness of the New Guarantor on the same basis as the Senior Notes are senior to the Indebtedness of the Company. For purposes of the foregoing sentence, (a) the New Guarantor may make, and the Trustee and the Holders of the Notes have the right to receive and/or retain, payments by the New Guarantor only at such times as they may receive and/or retain payments in respect of the Senior Notes pursuant to the Indenture, including Article 11 thereof, and (b) the rights and obligations of the relevant parties relative to the New Subsidiary Guarantee and the New Guarantor's Indebtedness shall be the same as their respective rights and obligations relative to the Senior Notes of the Company pursuant to Article 11 of the Indenture. - 6 - 7 THE TERMS OF ARTICLE 11 OF THE INDENTURE ARE INCORPORATED HEREIN BY REFERENCE. Capitalized terms used herein have the same meanings given in the Indenture unless otherwise indicated. - 7 - EX-4.14 4 SECOND SUPPLEMENTAL INDENTURE 1 EXHIBIT 4.14 SECOND SUPPLEMENTAL INDENTURE Second Supplemental Indenture, dated as of December 22, 1997, by and among IXC Communications, Inc., a Delaware corporation (the "Company"), each of the Guarantors listed on the signature page hereto and IBJ Schroder Bank & Trust Company, as trustee (the "Trustee"), under the Indenture dated as of October 5, 1995, as amended by Amendment No. 1 to Indenture and Subsidiary Guaranty dated as of June 4, 1996 and supplemented by the First Supplemental Indenture dated as of October 23, 1997 among the Company, the Guarantors listed on the signature pages thereto (the "Guarantors"), and the Trustee (as amended and supplemented, the "Indenture") pursuant to which the Company's 12 1/2% Senior Notes due 2005 (the "Senior Notes") were issued. Capitalized terms used herein, but otherwise not defined herein, shall have the meanings given to such terms in the Indenture. WHEREAS, the Board of Directors of the Company has determined that it is in the best interests of the Company to authorize and approve an amendment to the Indenture, in accordance with subparagraph (d) of Section 9.01 of the Indenture, in order to add IXC Internet Services, Inc. ("IXC Internet" or the "New Guarantor ") as a Guarantor pursuant to the requirements of the Indenture; and WHEREAS, Section 9.01 of the Indenture provides, among other things, that the Company and the Trustee may amend or supplement the Indenture as provided herein without the consent of any Holder to make any change that would provide additional rights or benefits to the Holders of the Senior Notes or that does not adversely affect the legal rights thereunder of any Holder of the Senior Note; and WHEREAS, all acts and proceedings required by law, the Indenture and the charter documents of the Company necessary to constitute this Second Supplemental Indenture as a valid and binding agreement for the uses and purposes herein set forth, in accordance with its terms, have been done and taken; and the execution and delivery of this Second Supplemental Indenture by the Company and each of the Guarantors have been in all respects duly authorized; and WHEREAS, the Company has furnished the Trustee with (i) an Officers' Certificate and an Opinion of Counsel stating that the conditions precedent to the execution by the Trustee of this Second Supplemental Indenture have been satisfied, (ii) resolutions of the Company, each of the Guarantors and IXC Internet, authorizing the execution of the Second Supplemental Indenture, and (iii) a request of the Company. NOW, THEREFORE, each party hereto, for the equal and proportionate benefit of the other parties hereto and the Holders, are executing and delivering this Second Supplemental Indenture. 2 Section 1. Guarantee by IXC Internet. For value received, IXC Internet agrees to become a party to the Indenture as a Guarantor under and pursuant to the provisions of the Indenture and hereby agrees to be bound by the terms and conditions set forth in the New Subsidiary Guarantee set forth in Exhibit A attached hereto. Section 2. Miscellaneous. a. Effect of Second Supplemental Indenture. Upon the execution and delivery of this Second Supplemental Indenture by the Company, the Guarantors and the Trustee, the Indenture shall be supplemented in accordance herewith, and this Second Supplemental Indenture shall form a part of the Indenture for all purposes, and every Holder of Senior Notes heretofore or hereafter authenticated and delivered under the Indenture shall be bound hereby. b. Indenture Remains in Full Force and Effect. Except as supplemented hereby, all provisions in the Indenture shall remain in full force and effect. c. Ratification of Indenture. As amended by this Second Supplemental Indenture, the Indenture is in all respects ratified and confirmed and, as so supplemented by this Second Supplemental Indenture, shall be read, taken and construed as one and the same instrument. d. Confirmation and Preservation of Indenture. The Indenture as supplemented by this Second Supplemental Indenture is in all respects confirmed and preserved. e. Conflict with Trust Indenture Act. If any provision of this Second Supplemental Indenture limits, qualifies or conflicts with any provision of the TIA that is required under the TIA to be part of and govern any provision of this Second Supplemental Indenture, the provision of the TIA shall control. If any provision of this Second Supplemental Indenture modifies or excludes any provision of the TIA that may be so modified or excluded, the provision of the TIA shall be deemed to apply to the Indenture as so modified or to be excluded by this Second Supplemental Indenture, as the case may be. f. Severability. In case any provision in this Second Supplemental Indenture shall be invalid, illegal or unenforceable, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby. g. Headings. The Section headings of this Second Supplemental Indenture have been inserted for convenience of reference only, are not to be considered a part of this Second Supplemental Indenture and shall in no way modify or restrict any of the terms or provisions hereof. h. Benefits of Second Supplemental Indenture, etc. Nothing in this Second Supplemental Indenture or the Senior Notes, express or implied, shall give to any Person, other than - 2 - 3 the parties hereto and thereto and their successors hereunder and thereunder and the Holders of the Senior Notes, any benefit of any legal or equitable right, remedy or claim under the Indenture, this Second Supplemental Indenture or the Senior Notes. i. Successors. All agreements of the Company and in this Second Supplemental Indenture shall bind its successors. All agreements of the Trustee in this Second Supplemental Indenture shall bind its successors. j. The Trustee. In entering into this Second Supplemental Indenture, the Trustee shall be entitled to the benefit of every provision of the Indenture relating to the conduct or affecting the liability or affording protection to the Trustee. The Trustee shall not be responsible in any manner whatsoever for the recitals of fact herein, all of which are made by the Company and the Guarantors. k. Governing Law. The internal law of the State of New York shall govern and be used to construe this Second Supplemental Indenture without regard to principals of conflict of laws thereof. l. Events of Default. To the extent provisions of the Indenture have been deleted by this Second Supplemental Indenture, the Company is hereby relieved of its obligations under such provisions and such provisions shall not hereafter give rise to a Default or an Event of Default. To the extent provisions of the Indenture have been amended by this Second Supplemental Indenture, a Default or an Event of Default may arise hereafter under such provisions only as amended. m. The Effective Date. This Second Supplemental Indenture shall become a legally effective and binding instrument upon the execution and delivery hereof by all parties hereto. n. Counterparts. This Second Supplemental Indenture may be executed in any number of counterparts and by the parties hereto in separate counterparts, each of which so executed shall be deemed to be an original, but all of such counterparts shall together constitute but one and the same agreement. - 3 - 4 IN WITNESS WHEREOF, the parties hereto have caused this Second Supplemental Indenture to be executed by their respective officers, thereunto duly authorized and attested, all as of the day and year first above written. "Company" Attest: IXC COMMUNICATIONS, INC., By: /s/ Jeffrey C. Smith By: /s/ James F. Guthrie ------------------------------- ------------------------------------ Name: Jeffrey C. Smith Name: James F. Guthrie Title: Senior Vice President, Title: Executive Vice President and Chief General Counsel and Secretary Financial Officer "Guarantors" ATLANTIC STATES MICROWAVE TRANSMISSION COMPANY CENTRAL STATES MICROWAVE TRANSMISSION COMPANY TELCOM ENGINEERING, INC. TOWER COMMUNICATION SYSTEMS CORP. WEST TEXAS MICROWAVE COMPANY WESTERN STATES MICROWAVE TRANSMISSION COMPANY RIO GRANDE TRANSMISSION, INC. IXC CARRIER, INC. IXC LONG DISTANCE, INC. LINK NET INTERNATIONAL, INC. IXC INTERNATIONAL, INC. Attest: IXC INTERNET SERVICES, INC. By: /s/ Jeffrey C. Smith By: /s/ James F. Guthrie ------------------------------- ------------------------------------ Name: Jeffrey C. Smith Name: James F. Guthrie Title: Senior Vice President, Title: Executive Vice President and Chief General Counsel and Secretary Financial Officer - 4 - 5 "Trustee" Attest: IBJ SCHRODER BANK & TRUST COMPANY By: /s/ Barbara McCluskey By: /s/ Terence Rawlins ------------------------------- ------------------------------------ Name: Barbara McCluskey Name: Terence Rawlins Title: Assistant Secretary Title: Assistance Vice President - 5 - 6 EXHIBIT A NEW SUBSIDIARY GUARANTEE The New Guarantor (which term includes any successors or assigns under the Indenture), agrees to irrevocably and unconditionally guaranteed on an unsecured basis (i) the due and punctual payment of the principal of, and premium and Liquidated Damages, if any, and interest on the Senior Notes, whether at stated maturity, by acceleration or otherwise, the due and punctual payment of interest on the overdue principal of, and premium if any, and (to the extent permitted by law) interest, and Liquidated Damages on any interest, if any, on the Senior Notes, and the due and punctual performance of all other obligations of the Company, to the Holders or the Trustee all in accordance with the terms set forth in the Indenture, (ii) in case of any extension of time of payment or renewal of any Senior Notes or any such other obligations, that the same will be promptly paid in full when due or performed in accordance with the terms of the extension or renewal, whether at stated maturity, by acceleration or otherwise, and (iii) the payment of any and all costs and expenses (including reasonable attorneys' fees) incurred by the Trustee or any Holder in enforcing any rights under this New Subsidiary Guarantee. The obligations of the New Guarantor to the Holders and to the Trustee pursuant to this New Subsidiary Guarantee and the Indenture are expressly set forth in Article 11 of the Indenture and reference is hereby made to such Indenture for the precise terms of this Guarantee. No stockholder, officer, director, or incorporator, as such, past, present or future of the New Guarantor shall have any liability under this New Subsidiary Guarantee by reason of his or its status as such stockholder, officer, director or incorporator. This is a continuing Guarantee and shall remain in full force and effect and shall be binding upon the each New Guarantor and its successors and assigns until full and final payment of all of the Company's obligations under the Senior Notes and Indenture and shall inure to the benefit of the successors and assigns of the Trustee and the Holders, and, in the event of any transfer or assignment of rights by any Holder or the Trustee, the rights and privileges herein conferred upon that party shall automatically extend to and be vested in such transferee or assignee, all subject to the terms and conditions hereof. This is a Guarantee of payment and not of collectibility. Any term or provision of this Guarantee to the contrary notwithstanding, the aggregate amount of the Obligations guaranteed hereunder shall be reduced to the extent necessary to prevent this Guarantee from violating or becoming voidable under applicable law relating to fraudulent conveyance or fraudulent transfer or similar laws affecting the rights of creditors generally. The Obligations of the New Guarantor under the New Subsidiary Guarantee pursuant to Article 11 of the Indenture shall be senior to the Indebtedness of the New Guarantor on the same basis as the Senior Notes are senior to the Indebtedness of the Company. For purposes of the foregoing sentence, (a) the New Guarantor may make, and the Trustee and the Holders of the Notes have the right to receive and/or retain, payments by the New Guarantor only at such times as they may receive and/or retain payments in respect of the Senior Notes pursuant to the Indenture, including Article 11 thereof, and (b) the rights and obligations of the relevant parties relative to the New Subsidiary Guarantee and the New Guarantor's Indebtedness shall be the same as their respective rights and obligations relative to the Senior Notes of the Company pursuant to Article 11 of the Indenture. - 6 - 7 THE TERMS OF ARTICLE 11 OF THE INDENTURE ARE INCORPORATED HEREIN BY REFERENCE. Capitalized terms used herein have the same meanings given in the Indenture unless otherwise indicated. - 7 - EX-4.15 5 THIRD SUPPLEMENTAL INDENTURE 1 EXHIBIT 4.15 THIRD SUPPLEMENTAL INDENTURE Third Supplemental Indenture, dated as of January 6, 1998, by and among IXC Communications, Inc., a Delaware corporation (the "Company"), each of the Guarantors listed on the signature pages hereto (the "Guarantors") and IBJ Schroder Bank & Trust Company, as trustee (the "Trustee"), under the Indenture dated as of October 5, 1995, as amended by Amendment No. 1 to Indenture and Subsidiary Guaranty dated as of June 4, 1996 and as supplemented by the First Supplemental Indenture dated as of October 23, 1997 and the Second Supplemental Indenture dated as of December 22, 1997 among the Company, the Guarantors, and the Trustee (as amended and supplemented, the "Indenture") pursuant to which the Company's 12 1/2% Senior Notes due 2005 (the "Senior Notes") were issued. Capitalized terms used herein, but otherwise not defined herein, shall have the meanings given to such terms in the Indenture. WHEREAS, on August 2, 1996, the Company consummated its offer to exchange (the "Exchange Offer") any and all of its outstanding Series A Senior Notes for a like aggregate principal amount of Series B Senior Notes; WHEREAS, certain affiliates and other holders of the Series A Senior Notes (collectively the "Non-Exchanging Holders") were unable to or did not participate in the Exchange Offer; WHEREAS, at least one Non-Exchanging Holder has expressed a desire to exchange its Series A Senior Notes for Series B Senior Notes in a transaction outside of the Company's Exchange Offer; WHEREAS, pursuant to Section 2.01 of the Indenture, the Series B Senior Notes may be originally issued only in exchange for the Series A Senior Notes pursuant to the Exchange Offer; WHEREAS, the Boards of Directors of the Company and each of the Guarantors have determined that it is in the best interest of the Company and the Guarantors to authorize and approve an amendment to the Indenture in accordance with subparagraph (d) of Section 901 of the Indenture in order to allow the Company, upon request of a Holder of the Series A Senior Notes, to exchange the Series A Senior Notes for a like principal amount of new securities which are identical in all material respects to the Series B Senior Notes except that such new securities will not be registered pursuant to an effective registration statement under the Securities Act of 1933, as amended; WHEREAS, Section 9.01 of the Indenture provides, among other things, that the Company and the Trustee may amend or supplement the Indenture as provided herein without the consent of any Holder to make any change that does not adversely affect the legal rights thereunder of any Holder of the Senior Notes; 2 WHEREAS, all acts and proceedings required by law, the Indenture and the charter documents of the Company necessary to constitute this Third Supplemental Indenture as a valid and binding agreement for the uses and purposes herein set forth, in accordance with its terms, have been done and taken; and the execution and delivery of this Third Supplemental Indenture by the Company and each of the Guarantors have been in all respects duly authorized; and WHEREAS, the Company has furnished the Trustee with (i) an Officers' Certificate and an Opinion of Counsel stating that the conditions precedent to the execution by the Trustee of this Third Supplemental Indenture have been satisfied, (ii) resolutions of the Company and each of the Guarantors authorizing the execution of the Third Supplemental Indenture, and (iii) a request of the Company. NOW, THEREFORE, each party hereto, for the equal and proportionate benefit of the other parties hereto and the Holders, is executing and delivering this Third Supplemental Indenture. Section 1. Amendment of Section 2.01 of the Indenture. The third paragraph of Section 2.01 of the Indenture is hereby amended to read in its entirety as follows: "All Senior Notes which shall be issued and authenticated on the date of this Indenture shall be designated as the 12.50% Series A Senior Notes due 2005 of the Company. The Series B Senior Notes shall be designated as the 12.50% Senior Series B Notes due 2005 of the Company and shall be identical in all material respects to the Series A Senior Notes (except that the Series B Senior Notes will not contain the legend set forth in Section 2.06(g)(i) manifesting the transfer restrictions). The Series B Senior Notes shall be originally issued only in exchange for the then outstanding Series A Senior Notes tendered at the option of the Holders thereof pursuant to the Exchange Offer. Notwithstanding anything in this Indenture to the contrary, upon request of a Holder of Series A Senior Notes, the Company, in exchange for a like principal amount of Series A Senior Notes, may issue new securities to such Holder which are identical in all material respects to the Series B Senior Notes except that such new securities will not be registered pursuant to an effective registration statement under the Securities Act, and shall contain the legend set forth in Section 2.06(g)(i) manifesting such transfer restrictions." Section 2. Amendment of Section 2.02 of the Indenture. Section 2.02 of the Indenture is hereby amended to add a sixth paragraph to the end of Section 2.02 to read in its entirety as follows: "Notwithstanding anything in this Indenture to the contrary, the authority of the Trustee to authenticate Senior Notes includes the authority - 2 - 3 to authenticate Series B Senior Notes to be issued in an exchange for a like principal amount of Series A Senior Notes pursuant to the Exchange Offer or otherwise in accordance with Section 2.01 hereof." Section 3. Amendment of Section 4.09 of the Indenture. Paragraph (vii) of the second sentence of Section 4.09 of the Indenture is hereby amended to read in its entirety as follows: "(vii) the issuance of the Series B Senior Notes in connection with the Exchange Offer or otherwise in accordance with Section 2.01 hereof." Section 4. Miscellaneous. a. Effect of Third Supplemental Indenture. Upon the execution and delivery of this Third Supplemental Indenture by the Company, the Guarantors and the Trustee, the Indenture shall be supplemented in accordance herewith, and this Third Supplemental Indenture shall form a part of the Indenture for all purposes, and every Holder of Senior Notes heretofore or hereafter authenticated and delivered under the Indenture shall be bound hereby. b. Indenture Remains in Full Force and Effect. Except as supplemented hereby, all provisions in the Indenture shall remain in full force and effect. c. Ratification of Indenture. As amended by this Third Supplemental Indenture, the Indenture is in all respects ratified and confirmed and, as so supplemented by this Third Supplemental Indenture, shall be read, taken and construed as one and the same instrument. d. Confirmation and Preservation of Indenture. The Indenture as supplemented by this Third Supplemental Indenture is in all respects confirmed and preserved. e. Conflict with Trust Indenture Act. If any provision of this Third Supplemental Indenture limits, qualifies or conflicts with any provision of the TIA that is required under the TIA to be part of and govern any provision of this Third Supplemental Indenture, the provision of the TIA shall control. If any provision of this Third Supplemental Indenture modifies or excludes any provision of the TIA that may be so modified or excluded, the provision of the TIA shall be deemed to apply to the Indenture as so modified or to be excluded by this Third Supplemental Indenture, as the case may be. f. Severability. In case any provision in this Third Supplemental Indenture shall be invalid, illegal or unenforceable, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired thereby. g. Headings. The Section headings of this Third Supplemental Indenture have been inserted for convenience of reference only, are not to be considered a part of this Third Supplemental Indenture and shall in no way modify or restrict any of the terms or provisions hereof. - 3 - 4 h. Benefits of Third Supplemental Indenture, etc. Nothing in this Third Supplemental Indenture or the Senior Notes, express or implied, shall give to any Person, other than the parties hereto and thereto and their successors hereunder and thereunder and the Holders of the Senior Notes, any benefit of any legal or equitable right, remedy or claim under the Indenture, this Third Supplemental Indenture or the Senior Notes. i. Successors. All agreements of the Company and in this Third Supplemental Indenture shall bind its successors. All agreements of the Trustee in this Third Supplemental Indenture shall bind its successors. j. The Trustee. In entering into this Third Supplemental Indenture, the Trustee shall be entitled to the benefit of every provision of the Indenture relating to the conduct or affecting the liability or affording protection to the Trustee. The Trustee shall not be responsible in any manner whatsoever for the recitals of fact herein, all of which are made by the Company and the Guarantors. k. Governing Law. The internal law of the State of New York shall govern and be used to construe this Third Supplemental Indenture without regard to principals of conflict of laws thereof. l. Events of Default. To the extent provisions of the Indenture have been deleted by this Third Supplemental Indenture, the Company is hereby relieved of its obligations under such provisions and such provisions shall not hereafter give rise to a Default or an Event of Default. To the extent provisions of the Indenture have been amended by this Third Supplemental Indenture, a Default or an Event of Default may arise hereafter under such provisions only as amended. m. The Effective Date. This Third Supplemental Indenture shall become a legally effective and binding instrument upon the execution and delivery hereof by all parties hereto. n. Counterparts. This Third Supplemental Indenture may be executed in any number of counterparts and by the parties hereto in separate counterparts, each of which so executed shall be deemed to be an original, but all of such counterparts shall together constitute but one and the same agreement. - 4 - 5 IN WITNESS WHEREOF, the parties hereto have caused this Third Supplemental Indenture to be executed by their respective officers, thereunto duly authorized and attested, all as of the day and year first above written. "Company" Attest: IXC COMMUNICATIONS, INC., By: /s/ Jeffrey C. Smith By: /s/ James F. Guthrie ------------------------------- ------------------------------------ Name: Jeffrey C. Smith Name: James F. Guthrie Title: Senior Vice President, Title: Executive Vice President and Chief General Counsel and Secretary Financial Officer "Guarantors" ATLANTIC STATES MICROWAVE TRANSMISSION COMPANY CENTRAL STATES MICROWAVE TRANSMISSION COMPANY TELCOM ENGINEERING, INC. TOWER COMMUNICATION SYSTEMS CORP. WEST TEXAS MICROWAVE COMPANY WESTERN STATES MICROWAVE TRANSMISSION COMPANY RIO GRANDE TRANSMISSION, INC. IXC CARRIER, INC. IXC LONG DISTANCE, INC. LINK NET INTERNATIONAL, INC. IXC INTERNATIONAL, INC. Attest: IXC INTERNET SERVICES, INC. By: /s/ Jeffrey C. Smith By: /s/ James F. Guthrie ------------------------------- ------------------------------------ Name: Jeffrey C. Smith Name: James F. Guthrie Title: Senior Vice President, Title: Executive Vice President and Chief General Counsel and Secretary Financial Officer - 5 - 6 "Trustee" Attest: IBJ SCHRODER BANK & TRUST COMPANY By: /s/ Barbara McCluskey By: /s/ Terence Rawlins ------------------------------- ------------------------------------ Name: Barbara McCluskey Name: Terence Rawlins Title: Assistant Secretary Title: Assistance Vice President - 5 - EX-10.21 6 FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT 1 EXHIBIT 10.21 FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT THIS FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT ("First Amendment"), is dated as of December 23, 1997, by and between the following parties: LENDER/SECURED PARTY: NTFC CAPITAL CORPORATION, a Delaware corporation with offices at 220 Athens Way, Nashville, Tennessee 37228 and its assigns ("NTFC") LENDER/SECURED PARTY: EXPORT DEVELOPMENT CORPORATION, a corporation established by an Act of Parliament of Canada with its principal place of business at 151 O'Connor, Ottawa, Canada K1A 1K3 ("EDC") BORROWER/DEBTOR: IXC CARRIER, INC., a Nevada corporation with its principal place of business at 1122 South Capital of Texas Hwy., Austin, Texas 78746 ("Borrower") GUARANTOR: IXC COMMUNICATIONS, INC., a Delaware corporation with its principal place of business at 1122 South Capital of Texas Hwy., Austin, Texas 78746 ("Guarantor") This First Amendment changes only the terms referenced herein of the Loan and Security Agreement -between the parties thereto dated as of July 18, 1997 (the "Agreement"), and except as expressly amended hereby, the Agreement, including the exhibits and schedules attached thereto, and all other documents executed in connection therewith, remain in full force and effect as executed. Any terms not otherwise defined herein shall have the meanings given them in the Agreement. IN WITNESS WHEREOF, the parties have executed this First Amendment to Loan and Security Agreement by their duly authorized representatives: LENDER: BORROWER: - ------ -------- NTFC CAPITAL CORPORATION IXC CARRIER, INC. By:/s/ L.W. Middleton By: /s/ James F. Guthrie TITLE: Secretary TITLE: Executive Vice President and Chief Financial Officer DATE: 12/23/97 DATE: 12/23/97 LENDER: GUARANTOR: - ------ --------- EXPORT DEVELOPMENT CORPORATION IXC COMMUNICATIONS, INC. By: /s/ Bruce Dunlop /s/ Stephen Davies By: /s/ James F. Guthrie TITLE: Financial Services International Executive Vice President Manager Contracts Specialist and Chief Financial Officer DATE: 12/24/97 DATE: 12/23/97 2 FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT THIS FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT ("First Amendment") is dated as of December 23, 1997 by and between IXC CARRIER, INC., a Nevada corporation ("Borrower"), IXC COMMUNICATIONS, INC., a Delaware corporation ("Guarantor"), NTFC CAPITAL CORPORATION, a Delaware corporation ("NTFC"), and EXPORT DEVELOPMENT CORPORATION, a Canadian crown corporation("EDC"). B A C K G R O U N D: A. THE PARTIES HAVE ENTERED INTO A LOAN AND SECURITY AGREEMENT ("Agreement") dated as of July 18, 1997, providing for extensions of credit to Borrower for the purposes stated therein. B. A portion of the right, title and interest of NTFC in, under and to the Agreement and attendant Loan Documents was assigned to EDC pursuant to the Assignment and Acceptance Agreement and the Intercreditor Agreement between NTFC and EDC. C. NTFC and EDC remain willing to extend such credit to Borrower, and Borrower remains willing to borrow funds thereunder, upon the terms and conditions set forth in the Agreement as amended by this First Amendment. NOW, THEREFORE, in consideration of the premises and of the mutual covenants herein contained and intending to be legally bound hereby, the parties hereto agree as follows: T E R M S: The following provisions of the Agreement are hereby amended: 1. Section 1.01 is amended by substituting the following definitions for those in the Agreement: "Cash Flow": during any fiscal period of Guarantor, the sum of (i) net income (or loss) (which may be a positive or negative number) for such period, plus (ii) all non-cash items deducted in determining such net income (or loss), plus (iii) any infusions of cash equity available to Guarantor for general corporate purposes (including cash infusions for the Guarantor's Common Stock, Convertible Preferred Stock, Exchangeable Preferred Stock, or other Preferred Stock duly authorized and issued pursuant to the Guarantor's Certificate of Incorporation and By-Laws) or advances of subordinated debt to the Guarantor, minus (iv) all non-cash items added in determining net income (or loss) during such period, less (v) any Equity Payments made pursuant to Section 8.04 hereof. "Note" or "Notes": collectively, one or more promissory notes issued by Borrower to Lender or Lender's assignee, and all extensions, renewals, modifications, replacements, amendments, restatements and refinancings thereof. 2. Section 2.02 is amended by substituting the following new Section for that in the Agreement: 2 3 2.02. Notes and Payment Terms. (a) Promissory Notes. The Advances shall be evidenced by one or more Notes substantially in the form of Exhibit A hereto, with appropriate insertions. Each Note shall be executed by Borrower, payable to the order of Lender or Lender's assignee, and shall evidence the obligation of Borrower to repay all principal amounts advanced under or pursuant to this Agreement, together with interest and all other amounts due thereunder. Each Note shall be dated the Closing Date, have a stated maturity that is the Maturity Date, and bear interest at the Interest Rate from the First Borrowing Date until the Note or any amount thereunder is paid in full (whether on the Maturity Date, by acceleration or otherwise). All schedules attached to the Note shall be deemed a part thereof. Any such schedule may be amended by Lender from time to time to reflect changes in the amounts includable thereon, but the failure to attach or amend any schedule shall not diminish the obligation of Borrower to repay all amounts due hereunder or on any Note. (b) Interest Payments. Interest shall accrue on the principal amount outstanding on each Note for each separate Advance at the applicable Interest Rate for each Advance and shall be payable, in arrears, on each Interest Payment Date to the holder of the Note. Interest only shall be payable during the Interest Only Period, and thereafter all accrued interest shall be payable, in arrears, with the principal payments described below. (c) Principal Payments. On the Conversion Date, each Note shall automatically convert to a term certain of twenty (20) consecutive quarters, and principal shall be paid in twenty (20) equal consecutive quarterly installments, plus accrued interest to the holder of the Note, commencing on June 30, 1998 and on each Payment Date thereafter until the Maturity Date; provided, however, that the principal payment amounts shall be recalculated by Lender if any Advances are made hereunder after the Conversion Date, based on the aggregate amount of all Advances made at any time. The amount of each quarterly payment shall be calculated, at the outset, by amortizing the amount of all principal amounts outstanding on the Conversion Date. It is intended that the above amortization schedule will fully amortize the principal amounts advanced under all of the Notes. The final payment on a Note shall be in an amount equal to all outstanding principal, accrued and unpaid interest, premiums, and apportioned expenses, fees, penalties and all other unpaid charges due under that Note and this Agreement. (d) Late Payments and Default Rate. Notwithstanding the foregoing, if Borrower shall fail to pay within ten (10) days after the due date any principal amount or interest or other amount payable under this Agreement or under any Note, Borrower shall pay to Lender and/or to the holder of any Note not held by Lender, to defray the administrative costs of handling such late payments, an amount equal to interest on the amount unpaid, to the extent permitted under applicable law, at the Default Rate (instead of the Interest Rate), from the due date until such overdue principal amount, interest or other unpaid amount is paid in full (both before and after judgment) whether or not any notice of default in the payment thereof has been delivered under Section 9.01 hereof. In addition, but without duplication, upon the occurrence and during the continuance of an Event of Default, all outstanding amounts hereunder shall bear interest at the Default Rate (instead of the Interest Rate) until such amounts are paid in full or such Event of Default is waived in writing by Lender. 3 4 (e) Excess Interest. Notwithstanding any provision of any Note, this Agreement or any other Loan Document to the contrary, it is the intent of Lender and Borrower that Lender or any holder of any Note shall never be entitled to receive, collect, reserve or apply, as interest, any amount in excess of the maximum rate of interest permitted to be charged by applicable Law, as amended or enacted from time to time. In the event Lender, or any holder of any Note, ever receives, collects, reserves or applies, as interest, any such excess, such amount which would be excessive interest shall be deemed a partial prepayment of principal and treated as such, or, if the principal indebtedness and all other amounts due are paid in full, any remaining excess funds shall immediately be applied to any other outstanding indebtedness of Borrower due to Lender, and if none is outstanding, shall be paid to Borrower. In determining whether or not the interest paid or payable, under any specific contingency, exceeds the highest lawful rate, Borrower and Lender shall, to the maximum extent permitted under applicable law, (a) exclude voluntary prepayments and the effects thereof as it may relate to any fees charged by Lender, and (b) amortize, prorate, allocate, and spread, in equal parts, the total amount of interest throughout the entire term of the indebtedness; provided that if the indebtedness is paid and performed in full prior to the end of the full contemplated term hereof, and if the interest received for the actual period of existence hereof exceeds the maximum lawful rate, Lender or any holder of any Note shall refund to Borrower the amount of such excess or credit the amount of such excess against the principal portion of the indebtedness, as of the date it was received, and, in such event, Lender shall not be subject to any penalties provided by any laws for contracting for, charging, reserving or receiving interest in excess of the maximum lawful rate. 4. Schedule 2.02 attached hereto shall be attached to the Agreement in replacement of the Schedule 2.02 attached to the Agreement at the Closing. 5. Schedule 4.26 attached hereto shall be attached to the Agreement in replacement of the Schedule 4.26 attached to the Agreement at the Closing. 6. Schedule 6.02 attached hereto shall be attached to the Agreement in replacement of the Schedule 6.02 attached to the Agreement at the Closing. 7. The First Amendment to the Disclosure Schedule attached hereto shall be attached to the Agreement as an amendment to the Disclosure Schedule attached to the Agreement at the Closing. END OF FIRST AMENDMENT TO LOAN AND SECURITY AGREEMENT ----------------------------------------------------- 4 EX-10.22 7 SECOND AMENDMENT TO LOAN AND SECURITY AGREEMENT 1 EXHIBIT 10.22 SECOND AMENDMENT TO LOAN AND SECURITY AGREEMENT THIS SECOND AMENDMENT TO LOAN AND SECURITY AGREEMENT ("Second Amendment"), is dated as of January 21, 1998, by and between the following parties: LENDER/SECURED PARTY: NTFC CAPITAL CORPORATION, a Delaware corporation with offices at 220 Athens Way, Nashville, Tennessee 37228 and its assigns ("NTFC") LENDER/SECURED PARTY: EXPORT DEVELOPMENT CORPORATION, a corporation established by an Act of Parliament of Canada with its principal place of business at 151 O'Connor, Ottawa, Canada K1A 1K3 ("EDC") BORROWER/DEBTOR: IXC CARRIER, INC., a Nevada corporation with its principal place of business at 1122 South Capital of Texas Hwy., Austin, Texas 78746 ("Borrower") GUARANTOR: IXC COMMUNICATIONS, INC., a Delaware corporation with its principal place of business at 1122 South Capital of Texas Hwy., Austin, Texas 78746 ("Guarantor") This Second Amendment changes only the terms referenced herein of the Loan and Security Agreement -between the parties thereto dated as of July 18, 1997, as amended by the First Amendment to Loan and Security Agreement dated as of December 23, 1997 ("First Amendment") (collectively, the "Agreement"), and except as expressly amended hereby, the Agreement, including the exhibits and schedules attached thereto, and all other documents executed in connection therewith, remain in full force and effect as executed. Any terms not otherwise defined herein shall have the meanings given them in the Agreement. R E C I T A L S: A. The parties have entered into the Agreement, providing for extensions of credit to Borrower for the purposes stated therein. B. A portion of the Advances permitted under the Agreement have been funded, but a portion remain unfunded because certain Landlord Consents have not yet been obtained by Borrower. Therefore, the Financing Termination Date under the Agreement must be extended. C. NTFC and EDC remain willing to make Advances to Borrower upon the receipt of additional Landlord Consents and upon the other terms and conditions set forth in the Agreement as amended by this Second Amendment, and Borrower desires to continue to borrow funds under the Agreement. NOW, THEREFORE, in consideration of the premises and of the mutual covenants herein contained and intending to be legally bound hereby, the parties hereto agree as follows: T E R M S: The following provisions of the Agreement are hereby amended: 1. Exhibit A-1 and Exhibit A-2 attached hereto shall be attached to the Agreement in replacement of Exhibit A originally attached to the Agreement, and new Notes shall be executed in replacement of the outstanding Notes. 2 2. Schedule 2.02 attached hereto shall be attached to the Agreement in replacement of the Schedule 2.02 attached to the Agreement with the First Amendment. IN WITNESS WHEREOF, the parties have executed this Second Amendment to Loan and Security Agreement by their duly authorized representatives: LENDER: BORROWER: NTFC CAPITAL CORPORATION IXC CARRIER, INC. By: /s/ L.W. Middleton By: /s/ Stuart K. Coppens TITLE: Secretary TITLE: Vice President Finance/CAO DATE: 1/26/98 DATE: 1/21/98 LENDER: GUARANTOR: EXPORT DEVELOPMENT CORPORATION IXC COMMUNICATIONS, INC. By: /s/ Bruce Dunlop By: /s/ Stuart K. Coppens TITLE: Financial Services Manager TITLE: Vice President Finance/CAO DATE: 2/4/98 DATE: 1/21/98 By: /s/ Stephen Davies TITLE: International Contracts Specialist DATE: 2/4/98 2 3 SCHEDULE 2.02 TO LOAN AND SECURITY AGREEMENT PAYMENT TERMS AND GOVERNING LAW "Conversion Date": the Financing Termination Date. "Financing Termination Date": March 31, 1998. "Initial Payment Date": June 30, 1998. "Interest Only Period": the period beginning on the First Borrowing Date and continuing through March 31, 1998. "Interest Payment Date": the last Business Day of each Calendar Quarter. "Interest Rate": a fixed interest rate equal to the lesser of (i) the five (5) year constant maturity Treasury Bill rate as quoted in the Federal Reserve Statistical Release H.15 report on the last business day of the week ending two weeks prior to the week of the Borrowing Date plus 320 basis points ("Interest Rate") expressed as an annual rate of interest, compounded monthly, and calculated on the basis of a 360- day year, or (ii) the maximum permissible rate under applicable law in effect at any time. So long as no event of default has occurred and is continuing, the Interest Rate applying to each Advance shall be reduced (on a one-time basis) by 75 basis points when the Guarantor's public debt rating as of any Payment Date equals or exceeds Standard and Poor's BBB- rating. So long as no event of default has occurred and is continuing, the Interest Rate applying to each Advance shall be reduced (on a one-time basis) by an additional 25 basis points when the Guarantor's public debt rating as of any Payment Date equals or exceeds Standard and Poor's BBB rating. If, after the Guarantor attains a BBB rating, the Guarantor's debt rating is subsequently downgraded from BBB (but not less than BBB-) as of any Payment Date, then the Interest Rate applying to each Advance will be increased by 25 basis points. If the Guarantor's debt rating is further downgraded as of any Payment Date below BBB-, then the Interest Rate applying to each Advance will be increased by an additional 75 basis points. "Maturity Date": March 31, 2003, on which date all outstanding principal, accrued and unpaid interest, premiums, expenses, fees, penalties and all other unpaid charges due under the Note and this Agreement shall be finally due and payable. "Payment Date": the Initial Payment Date and the last Business Day of each Calendar Quarter thereafter. "Second Amendment to Disclosure Schedule": the Second Amendment Dated as of January 22, 1998 to IXC Communications, Inc. Disclosure Schedule, attached hereto and hereby made a part of the Agreement. 3 EX-21.1 8 SUBSIDIARIES OF THE REGISTRANT 1 EXHIBIT 21.1 SUBSIDIARIES OF THE REGISTRANT
STATE OR OTHER JURISDICTION OF OTHER NAMES INCORPORATION UNDER WHICH OR SUBSIDIARY NAME OF SUBSIDIARY ORGANIZATION DOES BUSINESS TYPE OF ENTITY ------------------ ------------ ------------- -------------- Atlantic States Microwave Transmission Company Nevada None Corporation Central States Microwave Transmission Company Ohio None Corporation Infotel Europe N/A European Joint Venture IXC Broadband Services, Inc. Delaware None Corporation IXC Business Services, LLC Delaware None Limited Liability Company IXC Carrier, Inc. Nevada None Corporation IXC International, Inc. Delaware None Corporation IXC Internet Services, Inc. Delaware None Corporation IXC Leasing, LLC Delaware None Limited Liability Company IXC Long Distance, Inc. Delaware None Corporation IXC-One Acquisition Corp. California None Corporation Link Net International, Inc. Delaware None Corporation Marca-Tel S.A. de C.V. Mexico None Corporation MSM Associates, Limited Partnership Delaware None Limited Partnership Mutual Signal Corp. New York None Corporation Mutual Signal Corporation of Michigan New York None Corporation Mutual Signal Holding Corporation Delaware None Corporation Pisces Acquisition Corp. Delaware Corporation Progress International, L.L.C. Texas None Limited Liability Company Rio Grande Transmission, Inc. Delaware None Corporation Switched Services Communications, L.L.C. Texas None Limited Liability Company Telcom Engineering, Inc. Texas None Corporation Telecom One, Inc. Delaware None Corporation Tower Communication Systems Corp. Ohio None Corporation UniDial Communications Services, LLC Kentucky None Limited Liability Company U.S. Advantage Long Distance, Inc. Texas None Corporation West Texas Microwave Company Texas None Corporation Western States Microwave Transmission Company Nevada None Corporation European Joint Venture England N/A Joint Venture
EX-23.1 9 CONSENT OF ERNST & YOUNG LLP 1 EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS We consent to the incorporation by reference in the Registration Statement on Form S-8 pertaining to the IXC Communications, Inc. 1996 Stock Plan and the IXC Communications, Inc. Amended and Restated 1994 Stock Plan and to the incorporation by reference in the Registration Statement on Form S-8 pertaining to the IXC Communications, Inc. Special Stock Plan and to the incorporation by reference in the Amendment No. 1 to the Registration Statement on Form S-3 of IXC Communications, Inc. for the registration of 97,481 shares of common stock and 1,400,000 shares of 7 1/4% Junior Convertible Preferred Stock (including any common stock issuable upon conversion thereof) of our report dated February 28, 1998, with respect to the consolidated financial statements of IXC Communications, Inc. included in the Annual Report on Form 10-K for the year ended December 31, 1997. Ernst & Young LLP Austin, Texas March 16, 1998 EX-23.2 10 CONSENT OF ARTHUR ANDERSEN LLP 1 EXHIBIT 23.2 CONSENT OF INDEPENDENT AUDITORS As independent auditors, we hereby consent to the use of our report dated January 30, 1998, with respect to the Combined Financial Statements of Marca Tel for the years ended December 31, 1997 and December 31, 1996 in the Form 10-K of IXC Communications, Inc. ARTHUR ANDERSEN /s/ FELIPE ROJAS PEREZ - --------------------------------------------------------- Felipe Rojas Perez Monterrey, N.L. March 14, 1998 EX-27.1 11 FINANCIAL DATA SCHEDULE
5 12-MOS DEC-31-1997 JAN-01-1997 DEC-31-1997 152,720,000 0 107,689,000 14,403,000 0 249,506,000 724,588,000 115,651,000 917,095,000 181,677,000 285,000,000 403,368,000 414 316,000 (47,955,000) 917,095,000 0 420,710,000 0 325,127,000 140,818,000 0 37,076,000 (93,166,000) (1,389,000) (94,555,000) 0 0 0 (94,555,000) (3.75) (3.75)
EX-99.1 12 MARCA-TEL COMBINING FINANCIAL STATEMENTS 1 EXHIBIT 99.1 MARCA TEL COMBINING FINANCIAL STATEMENTS AS OF DECEMBER 31, 1997 AND 1996 TOGETHER WITH AUDITORS' REPORT 1 2 MARCA TEL INDEX TO FINANCIAL STATEMENTS
PAGE ---- Report of Independent Auditors.............................. F-36 Combining Balance Sheets as of December 31, 1997 and 1996... F-37 Combining Statements of Income (Loss) for the Years Ended December 31, 1997 and 1996................................ F-39 Combined Statements of Shareholders' Equity for the Years Ended December 31, 1997 and 1996.......................... F-40 Combined Statements of Cash Flow for the Years Ended December 31, 1997 and 1996................................ F-41 Notes to the Combining Financial Statements for the Year Ended December 31, 1997 and 1996.......................... F-42
2 3 REPORT OF INDEPENDENT AUDITORS To the Stockholders of Marca Tel: We have audited the accompanying combined balance sheets of Marca Tel, S.A. de C.V., Marca Tel International, S.A. de C.V. and Grupo Marca Tel, S.A. de C.V. (collectively referred to as "the Company"), stated in U.S. dollars, as of December 31, 1997 and 1996, and the related combining statements of income, changes in shareholders' equity and cash flows for the years then ended. These combining financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the combined financial position of the Company as of December 31, 1997 and 1996, and the results of their operations, their changes in shareholders' equity and their cash flows for the years then ended, in accordance with the accounting principles generally accepted in the United States. ARTHUR ANDERSEN Monterrey, N.L. January 30, 1998 3 4 MARCA TEL COMBINING BALANCE SHEETS AS OF DECEMBER 31, 1997 AND 1996 (U.S. DOLLARS) ASSETS
MARCA TEL GRUPO MARCA TEL, INTERNATIONAL, MARCA TEL, COMBINED COMBINED S.A. DE C.V. S.A. DE C.V. S.A. DE C.V. ELIMINATIONS 1997 1996 ------------ -------------- ------------ --------------------- ----------- ----------- CURRENT ASSETS: Cash and cash equivalents.... $ 100,378 $ 295,414 $ 8,363 $ -- $ -- $ 404,155 $ 199,495 Accounts receivable.......... 3,683,059 -- -- -- -- 3,683,059 -- Value added taxes............ 5,714,074 650,768 2,209 -- 1,104,737 5,262,314 3,466,561 Affiliated companies......... 635,248 3,055,740 186,811 -- 3,877,799 -- -- Miscellaneous creditors...... 784,844 36,413 52,261 -- -- 873,518 722,490 ----------- ---------- ---------- -------- ---------- ----------- ----------- Total current assets.............. 10,917,603 4,038,335 249,644 -- 4,982,536 10,223,046 4,388,546 ----------- ---------- ---------- -------- ---------- ----------- ----------- INVESTMENT IN SHARES........... -- -- 4,250,000 -- -- 4,250,000 4,250,000 PROPERTY AND EQUIPMENT, net.... 68,560,939 1,119,947 559,408 -- -- 70,240,294 26,593,833 OTHER ASSETS................... 5,357,832 1,391 264,359 170,015 1,742,876 4,050,721 2,149,960 DEFERRED CHARGES............... 1,709,948 -- -- -- -- 1,709,948 1,731,814 ----------- ---------- ---------- -------- ---------- ----------- ----------- Total assets.......... $86,546,322 $5,159,673 $5,323,411 $170,015 $6,725,412 $90,474,009 $39,114,153 =========== ========== ========== ======== ========== =========== ===========
The accompanying notes are an integral part of this combined statement. 4 5 MARCA TEL COMBINING BALANCE SHEETS AS OF DECEMBER 31, 1997 AND 1996 (U.S. DOLLARS) LIABILITIES AND SHAREHOLDERS' EQUITY
MARCA TEL GRUPO MARCA TEL, INTERNATIONAL, MARCA TEL, COMBINED COMBINED S.A. DE C.V. S.A. DE C.V. S.A. DE C.V. ELIMINATIONS 1997 1996 ------------ -------------- ------------ --------------------- ------------ ----------- CURRENT LIABILITIES: Current portion of long-term debt...................... $ -- $ -- $ 325,000 $ -- $ -- $ 325,000 $ 325,000 Suppliers (Siemens)......... 16,349,155 -- -- -- -- 16,349,155 25,286,778 Accounts payable............ 71,456 643,485 13,495 -- -- 728,436 -- Affiliated companies........ 3,055,741 186,811 635,248 3,877,800 -- -- -- Taxes payable............... 607,312 1,425,308 17,943 1,056,978 -- 993,585 102,748 Other accrued liabilities... 34,895 -- -- -- -- 34,895 950,697 ------------ ---------- ---------- ---------- -------- ------------ ----------- Total current liabilities........ 20,118,559 2,255,604 991,686 4,934,778 -- 18,431,071 26,665,223 ------------ ---------- ---------- ---------- -------- ------------ ----------- LONG TERM DEBT: Banco Santander Mexicano, S.A....................... -- -- 2,744,096 -- -- 2,744,096 2,870,833 Suppliers (Siemens)......... 49,086,608 -- -- -- -- 49,086,608 -- ------------ ---------- ---------- ---------- -------- ------------ ----------- Total long term debt............... 49,086,608 -- 2,744,096 -- -- 51,830,704 2,870,833 ------------ ---------- ---------- ---------- -------- ------------ ----------- Total liabilities.... 69,205,167 2,255,604 3,735,782 4,934,778 -- 70,261,775 29,536,056 SHAREHOLDERS' EQUITY: Capital stock............... 29,496 6,567 6,634 -- -- 42,697 42,697 Advances for future capital increases................. 44,276,015 2,760,304 1,647,720 -- -- 48,684,039 12,655,099 Accumulated earnings (losses).................. (26,964,356) 137,198 (66,725) 1,790,634 170,015 (28,514,502) (3,119,699) ------------ ---------- ---------- ---------- -------- ------------ ----------- Total shareholders' equity............. 17,341,155 2,904,069 1,587,629 1,790,634 170,015 20,212,234 9,578,097 ------------ ---------- ---------- ---------- -------- ------------ ----------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY........ $ 86,546,322 $5,159,673 $5,323,411 $6,725,412 $170,015 $ 90,474,009 $39,114,153 ============ ========== ========== ========== ======== ============ ===========
The accompanying notes are an integral part of these combining statements. 5 6 MARCA TEL COMBINING STATEMENTS OF INCOME (LOSS) FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996 (U.S. DOLLARS)
MARCA TEL, GRUPO MARCA TEL, INTERNATIONAL, MARCA TEL, COMBINED COMBINED S.A. DE C.V. S.A. DE C.V. S.A. DE C.V. ELIMINATIONS 1997 1996 ------------ -------------- ------------ ------------ ------------- ----------- REVENUES: Net sales........... $ 5,915,946 $ -- $ -- $ (130,084) $ 5,785,862 $ -- Income from administrative services.......... -- 9,446,500 -- (9,446,500) -- -- Other income........ -- 118,020 (118,020) -- -- -- ------------ ---------- --------- ----------- ------------- ----------- Total revenues..... 5,915,946 9,446,500 118,020 (9,694,604) 5,785,862 -- Cost of sales excluding depreciation and amortization...... 10,341,476 -- -- -- 10,341,476 -- ------------ ---------- --------- ----------- ------------- ----------- Gross profit (loss)....... (4,425,530) 9,446,500 118,020 (9,694,604) (4,555,614) (3,110,000) OPERATING EXPENSES: Administrative expenses.......... 18,061,631 8,780,129 14,697 (9,694,604) 17,161,853 -- Depreciation and amortization...... 2,573,366 98,507 40,084 (170,015) 2,541,942 -- ------------ ---------- --------- ----------- ------------- ----------- Operating income (loss)....... (25,060,527) 567,864 63,239 170,015 (24,259,409) (3,110,000) OTHER INCOME (EXPENSE): Interest expense.... (229,020) -- (296,398) -- (525,418) (12,571) Interest income..... -- 10,114 -- -- 10,114 2,872 Other losses........ (2,102,380) (154,035) (137,507) -- (2,393,922) -- Translation gain (loss)............ 1,725,599 (1,705) 303,942 -- 2,027,836 -- ------------ ---------- --------- ----------- ------------- ----------- (605,801) (145,626) (129,963) -- (881,390) (9,699) ------------ ---------- --------- ----------- ------------- ----------- INCOME (LOSS) BEFORE PROVISION FOR INCOME TAXES.................. (25,666,328) 422,238 (66,724) 170,015 (25,140,799) -- PROVISION FOR INCOME TAXES.................. -- 254,004 -- -- 254,004 -- ------------ ---------- --------- ----------- ------------- ----------- Net income (loss)....... $(25,666,328) $ 168,234 $ (66,724) $ 170,015 $ (25,394,803) $(3,119,699) ============ ========== ========= =========== ============= ===========
The accompanying notes are an integral part of these combined statements. 6 7 MARCA TEL COMBINED STATEMENTS OF SHAREHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996 (U.S. DOLLARS)
ADVANCES FOR TOTAL CAPITAL FUTURE CAPITAL CUMULATIVE SHAREHOLDERS' STOCK INCREASES LOSSES EQUITY ------- -------------- ------------ ------------- BALANCE, DECEMBER 31, 1995.............. $12,922 $ -- $ -- $ 12,922 Capital increase...................... 29,775 -- -- 29,775 Net loss for the year................. -- -- (3,119,699) (3,119,699) Advances for future capital increases.......................... -- 12,655,099 -- 12,655,099 ------- ----------- ------------ ------------ BALANCE, DECEMBER 31, 1996.............. 42,697 12,655,099 (3,119,699) 9,578,097 Net loss for the year................. -- -- (25,394,803) (25,394,803) Advances for future capital increases.......................... -- 36,028,940 -- 36,028,940 ------- ----------- ------------ ------------ BALANCE, DECEMBER 31, 1997.............. $42,697 $48,684,039 $(28,514,502) $ 20,212,234 ======= =========== ============ ============
The accompanying notes are an integral part of these combined statements. 7 8 MARCA TEL COMBINED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1997 AND 1996 (U.S. DOLLARS)
1997 1996 ------------ ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net loss for the year..................................... $(25,394,803) $ (3,199,699) Adjustments to reconcile net loss to cash provided by operating activities -- Depreciation and amortization.......................... 2,541,942 -- ------------ ------------ (22,852,861) (3,199,699) RESOURCES GENERATED BY OPERATIONS: (Increase) decrease in assets -- Accounts receivable.................................... (3,730,873) -- Value-added taxes...................................... (1,905,290) (3,575,132) Miscellaneous creditors................................ (170,958) (745,118) ------------ ------------ (5,807,121) (4,320,250) Increase (decrease) in liabilities -- Current portion of long-term debt...................... 8,084 335,179 Suppliers (Siemens).................................... (8,424,715) 26,078,750 Accounts payable....................................... 737,893 -- Taxes payable.......................................... 904,958 105,966 Other accrued liabilities.............................. (904,043) 980,472 ------------ ------------ (7,677,823) 27,500,367 ------------ ------------ Net cash (used in) provided by operating activities..................................... (36,337,805) 19,980,418 CASH FLOWS FROM INVESTING ACTIVITIES: Investment in shares...................................... -- (4,250,000) Property and equipment.................................... (45,870,208) (26,593,833) Deferred charges and other assets......................... (2,197,090) (3,855,403) ------------ ------------ Net cash used in investing activities............. $(48,067,298) $(34,699,236) ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES: Bank loans................................................ $ (126,737) $ 3,195,833 Suppliers................................................. 49,086,608 29,775 Advances for future capital increase...................... 36,028,940 12,655,099 ------------ ------------ Net cash provided by financing activities......... 84,988,811 15,880,707 Effects of exchange rate changes on cash.................. (379,048) (962,394) ------------ ------------ Net increase in cash and cash equivalents......... 204,660 199,495 Cash and cash equivalents at beginning of year............ 199,495 -- ------------ ------------ Cash and cash equivalents at end of year.................. $ 404,155 $ 199,495 ============ ============ Supplemental cash flow disclosures: Cash paid during the period for -- Interest............................................... $ 3,189,485 $ 76,156 ============ ============ Income taxes........................................... $ 186,921 $ -- ============ ============
The accompanying notes are an integral part of these combined statements. 8 9 MARCA TEL NOTES TO THE COMBINING FINANCIAL STATEMENTS FOR THE YEAR ENDED DECEMBER 31, 1997 AND 1996 (STATED IN U.S. DOLLARS) 1. OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Description of operations The principal activity of this group is to provide basic public telephone services of long distance calls through a concession valid for 30 years, granted in October 1995 by the Ministry of Communications and Transportation. Until December 1996, the Company was in its development stage period. In January 1997, the Company began the sale of services, primarily national and international long-distance calls. Basis of Combination The accompanying combined financial statements include the financial statements of Marca Tel, S.A. de C.V., Marca Tel International, S.A. de C.V. and Grupo Marcatel, S.A. de C.V. All material intercompany balances and transactions have been eliminated in combination. Basis for Translation The accounts of the companies are maintained in Mexican pesos. The combined balance sheet was remeasured into U.S. dollars in accordance with Statement of Financial Accounting Standards No. 52, "Foreign Currency Translation" (SFAS-52). In this regard Mexico has been considered to be a highly inflationary economy, and accordingly, the functional currency of the Mexican operations is the U.S. dollar. The method of translating the Mexican combined financial statements was as follows: a. Quoted year-end exchange rates are used to remeasure monetary assets and liabilities. b. All other assets and shareholders' equity accounts are remeasured at the exchange rates in effect at the time the items were originally recorded. c. Revenues and expenses are remeasured at the average rates of exchange in effect during the year, except for depreciation and amortization, which are translated at the exchange rates in effect when the respective assets were acquired. d. Translation gains and losses arising from the remeasurement are included in the determination of net income in the period such gains and losses arise and have been distributed to the related income statement accounts. Use of estimates The accounting policies followed by the companies require management to make certain estimates and use certain assumptions to determine the valuation of some of the balances included in the financial statements and to make disclosures required to be included therein. Although the actual results may differ from those estimates, management believes that the estimates and assumptions used were appropriate in the circumstances. Adjustments to conform with accounting principles generally accepted in the United States Certain accounting practices applied by the companies that conform with the accounting principles generally accepted in Mexico do not conform with the generally accepted accounting principles in the United States. The accompanying financial statements have been prepared for use primarily in the United States and 9 10 MARCA TEL NOTES TO THE COMBINING FINANCIAL STATEMENTS (CONTINUED) FOR THE YEAR ENDED DECEMBER 31, 1997 AND 1996 (STATED IN U.S. DOLLARS) reflect certain adjustments required to conform with the accounting principles generally accepted in that country. Cash and cash equivalents Cash and cash equivalents are primarily represented by short-term bank deposits, valued at market price (cost plus accrued interest). Investment in shares This investment is valued at cost, which approximates market or net realizable value (see Note 3). Property and equipment Property and equipment includes the costs of buildings and equipment. Additions, improvements and expenditures for repairs and maintenance that significantly add to the productive capacity or extend the life of an asset are capitalized; other expenditures for repairs and maintenance are charged to income. Depreciation is calculated under the straight-line method over the estimated remaining useful lives of the assets, which begin depreciating when the asset is completed or placed in service, whichever comes first. Pensions and other employee benefits The companies are liable for severance payments to employees terminating under certain conditions. The charge occurs in the period in which the payments are made and the companies are also liable for the payment of vested seniority premiums to employees with 15 or more years of service. At December 31, 1997 the companies had not recorded a liability for this concept primarily because they were in their first year of operation. Under the Mexican Labor Law, the companies are liable for separating payments to employees terminating under certain circumstances. The companies accrue for such costs when known. The companies have no other post-retirement or post-employment benefits which would require adjustment under Statement of Financial Accounting Standards No. 106, "Employers' Accounting for Postretirement Benefits other than Pensions" or Statement of Financial Accounting Standards No. 112, "Employers' Accounting for Post-employment Benefits". Capitalized interest Interest incurred with respect to long-term capital projects is capitalized and reflected as a reduction to interest expense. Such amount was $4,109,837 in 1997. Income taxes Deferred income taxes are calculated using the liability method for temporary differences between assets and liabilities for financial and tax reporting purposes. Financial instruments The companies have considered the disclosure provisions of Statement of Financial Accounting Standards No. 105, "Disclosure of Information about Financial Instruments with Off-Balance-Sheet Risk, and Financial Instruments with Concentration of Credit Risk", as well as the provisions of Statement of 10 11 MARCA TEL NOTES TO THE COMBINING FINANCIAL STATEMENTS (CONTINUED) FOR THE YEAR ENDED DECEMBER 31, 1997 AND 1996 (STATED IN U.S. DOLLARS) Financial Accounting Standards No. 107, "Disclosures about Fair Value of Financial Instruments". The companies do not have any financial instruments, which would call for any additional disclosures under Statements 105 and 107. Furthermore, the fair value of the companies' financial instruments generally approximate the amounts at which they are carried on the balance sheet. Deferred charges This mainly corresponds to expenses incurred for improvements and remodeling of leased facilities in Monterrey and Guadalajara. These deferred charges are subject to amortization over 10 years. Other assets This corresponds to a fund (escrow account) created to finance part of the investments in assets that Siemens Aktiengesellschaft will perform by creating a contract to provide the telecommunications networks, including the systems equipment, fiber optics, labor structure, etc. 2. PROPERTY AND EQUIPMENT: At December 31, the property and equipment consists of:
1997 1996 ----------- ----------- Land................................................ $ 361,092 $ 313,990 Building............................................ 1,692,286 216,545 Furniture and fixtures.............................. 592,302 88,551 Transportation equipment............................ 46,933 32,997 Communication equipment............................. 32,525 690,348 Net construction, installation and equipment........ 69,663,621 19,693,460 Advance to suppliers................................ -- 5,557,942 ----------- ----------- Total fixed assets........................ 72,388,759 26,593,833 Accumulated depreciation.................. (2,145,466) -- ----------- ----------- $70,240,293 $26,593,833 =========== ===========
The fixed assets of the companies are given as collateral to Siemens, derived from the obligation that exists with its supplier as mentioned in Note 9. 3. INVESTMENT IN SHARES: Grupo Marca Tel, S.A. de C.V. has an investment in shares corresponding to the purchase of shares of Inmobiliaria Mexicana del Noreste, S.A. de C.V., by means of a contract dated September 26, 1996, in which the Company acquires 99.99% of the shares issued and outstanding of the Company and .01% corresponds to Marca Tel International, S.A. de C.V. These shares were acquired with contract that provides for the shares to be held as collateral by the seller until the purchase price of such shares is to be paid in 60 monthly installments through September 2001 (see Note 4). 11 12 MARCA TEL NOTES TO THE COMBINING FINANCIAL STATEMENTS (CONTINUED) FOR THE YEAR ENDED DECEMBER 31, 1997 AND 1996 (STATED IN U.S. DOLLARS) 4. LONG-TERM DEBT: Maturity: 1998 (current portion)................................. $ 325,000 ========== 1999................................................... 325,000 2000................................................... 325,000 2001................................................... 2,094,096 ---------- $2,744,096 ==========
The loan corresponds to Banco Santander Mexicano, S.A. and is payable in 60 monthly payments of $27,083, at an annual interest rate of LIBOR + 4 points with a final payment of US$1,570,830 due on September 26, 2001. The loan is guaranteed with the shares of Inmobiliaria Mexicana del Noreste, S.A. de C.V. 5. TAX ENVIRONMENT: Income and asset tax regulations The companies are subject to income taxes. Income taxes are computed taking into consideration the taxable and deductible effects of inflation, such as depreciation calculated on restated values and the deduction of purchases in place of cost of sales, which permit the deduction of current cost, and taxable income is increased or reduced by the effects of inflation on certain monetary assets and liabilities through the inflationary component. The income tax rate in effect is 34% over taxable income. Since 1996 was the start-up period of the companies, they will not be subject to asset tax until 2000. At December 31, 1997 the companies had available tax loss carryforwards totaling $23,645,893 expiring in 2006 and 2007, which will be indexed through the date used. Since there is no assurance that sufficient taxable income will be generated in the future to utilize these tax loss carryforwards, no related deferred tax benefits have been recorded. The provisions for income taxes have been determined on the basis of the taxable income of each individual company. Mexican law requires the payment to employees of 10% of the Company's taxable income, excluding certain adjustments for inflation. These amounts are treated as compensation expense and are reflected in the appropriate income statement captions in the accompanying financial statements. The employee profit sharing expense in 1997 in Marcatel International, amounted $57,678. 6. SHAREHOLDERS' EQUITY: At December 31, 1997, the combined capital stock consists of 2,000 ordinary nominative shares, completely subscribed and paid, with a par value of 100 Mexican pesos each which corresponds to the fixed portion of the capital stock. The variable portion is unlimited. In accordance with the companies' bylaws, shares are divided into two series, classified as series "A" and "B". "Series A" represents the minimum fixed capital in a proportion of 51% of the total capital stock and can only be owned by Mexican individuals or entities and "Series B" represents the remaining variable capital of free subscription. In an Extraordinary General Shareholders' Meeting held on January 12, 1996 and protocolized on January 10, 1997, an increase in the capital stock of Marca Tel, S.A. de C.V. was approved with the issuance 12 13 MARCA TEL NOTES TO THE COMBINING FINANCIAL STATEMENTS (CONTINUED) FOR THE YEAR ENDED DECEMBER 31, 1997 AND 1996 (STATED IN U.S. DOLLARS) of 15,300 series "A-1" shares and 14,700 series "B-1" shares amounting to $5,000,000 (five million of Mexican Pesos). These shares remain deposited in the treasury of the Company for its subsequent subscription and payment. No increase in capital stock has been made as of the date of the issuance of these financial statements. During 1996 and 1997, the shareholders made advances for future capital increases. 7. COMMITMENTS AND GUARANTEES: At December 31, 1997, Marca Tel, S.A. de C.V. had the following commitments and guarantees: (a) Long-term contract with its principal supplier (Siemens) to carry out a turnkey project in order to establish a telecommunications system in Mexico. This supplier is in charge of installing and supplying the equipment and the information system to perform communication activities for external users. The commercial contract with Siemens amounts to $74,539,537, of which $49,086,608 has been spent, as of December 31, 1997 and is shown in the balance sheet in accounts payable to suppliers. The dollar denominated liability with Siemens bears interest at an annual rate of 11%, which is recorded under other accounts payable. As of the date of operation and of the license granted by the Ministry of Communications and Transportation, fixed assets and accounts receivable from customers have been pledged as collateral. (b) A collateral agreement was executed on December 20, 1996, whereby the shareholders of Progress International, L.L.C. and Formento Radio Beep, S.A. de C.V. and Mr. Gustavo Mario de la Garza Ortega pledged the 1,000 shares of the capital stock of the association they own to Siemens Aktiengesellschaft and Siemens, S.A. de C.V. An agreement was executed on February 28, 1997 among the above mentioned shareholders and Siemens Aktiengesellschaft and Siemens, S.A. de C.V., whereby it was decided to terminate the collateral agreement dated December 20, 1996, given an irrevocable administration and collateral trust was established on that same date among the shareholders of Progress International, L.L.C. and Fomento Radio Beep, S.A. de C.V. and Mr. Gustavo Mario de la Garza Ortega, acting as trustees in second lien; Bancomer, S.A., Institucion de Banca Multiple and Grupo Financiero Bancomer, Trust Division, acting as trustors and Siemens Aktiengesellschaft and Siemens Credit Corporation, acting as trustees in first lien, whereby the trust held the 1,000 shares of the capital stock of the association owned by the shareholders. 8. CONTINGENCIES: In June 1997, through the Federal Telecommunications Commission (COFETEL), the Ministry of Communications and Transportation issued an administrative resolution establishing costs of interconnection projects relative to signaling, pre-subscription and numbering that must be recovered by Telefonos de Mexico, S.A. de C.V. and Telefonos del Noroeste, S.A. de C.V. in operating their local services. According to the official resolution, each company participating in the long-distance telephone service in Mexico must pay the aforementioned companies an amount to be determined by an expert hired by COFETEL. Such payment will be based on various variables such as: recorded cross minutes, market share, total ratio of ports owned by the company to the overall amount of ports existing in Mexico. As of December 31, 1997, the companies' relative contingent liability amounted to US$37,157,883 which must be paid to Telefonos de Mexico and Telefonos del Noroeste over a seven-year period, starting on January 1, 1998. Since some telephone companies have expressed dissatisfaction with the COFETEL resolution, and to this date payments have not been made, although the related liabilities have been recorded. 13 14 MARCA TEL NOTES TO THE COMBINING FINANCIAL STATEMENTS (CONTINUED) FOR THE YEAR ENDED DECEMBER 31, 1997 AND 1996 (STATED IN U.S. DOLLARS) 9. SITUATION OF DISSOLUTION: At December 31, 1997, Marcatel, S.A. de C.V. and Grupo Marcatel, S.A. de C.V. had accumulated losses exceeding two-thirds of their capital stock, which places them in a situation of technical bankruptcy. In order for any related action to be taken, a dissolution order must be approved by the shareholders or requested by an interested third party through a judicial order. 14 -----END PRIVACY-ENHANCED MESSAGE-----