10-Q 1 e10-q.txt FORM 10-Q FOR QUARTER ENDED JUNE 30, 2000 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED June 30, 2000. OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM _______ TO ________. Commission File Number 1-12793 STARTEK, INC. -------------------------------------------------------------------------------- (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 84-1370538 -------------------------------------------------------------- ------------------------------------ (STATE OR OTHER JURISDICTION OF INCORPORATION OR ORGANIZATION) (I.R.S. EMPLOYER IDENTIFICATION NO.)
100 GARFIELD STREET DENVER, COLORADO 80206 ---------------------- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (303) 361-6000 -------------------------------------------------------------------------------- (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) -------------------------------------------------------------------------------- (FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR, IF CHANGED SINCE LAST REPORT) 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 the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practical date. Common Stock, $.01 Par Value-- 14,030,961 shares as of July 31, 2000. 2 STARTEK, INC. FORM 10-Q INDEX
Page Number ------ PART I. FINANCIAL INFORMATION Item 1. Financial Statements (unaudited) Condensed Consolidated Balance Sheets - December 31, 1999 and June 30, 2000 3 Condensed Consolidated Income Statements - Three months ended June 30, 1999 and 2000 Six months ended June 30, 1999 and 2000 4 Condensed Consolidated Statements of Cash Flows - Six months ended June 30, 1999 and 2000 5 Notes to Condensed Consolidated Financial Statements 6 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9 Item 3. Quantitative and Qualitative Disclosure About Market Risk 12 PART II. OTHER INFORMATION Item 2. Changes in Securities and Use of Proceeds 15 Item 4. Submission of Matters to a Vote of Security Holders 16 Item 6. Exhibits and Reports on Form 8-K 16 SIGNATURES 17
2 3 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS (UNAUDITED) STARTEK, INC. AND SUBSIDIARIES Condensed Consolidated Balance Sheets (dollars in thousands)
DECEMBER 31 JUNE 30 1999 2000 ------------ ------------ (unaudited) ASSETS Current assets: Cash and cash equivalents $ 11,943 $ 16,626 Investments 23,907 31,731 Trade accounts receivable, less allowance for doubtful accounts of $775 and $743, respectively 21,792 12,143 Inventories 3,740 927 Deferred tax assets 2,363 2,542 Prepaid expenses and other assets 448 547 ------------ ------------ Total current assets 64,193 64,516 Property, plant and equipment, net 26,758 26,075 Investment in Gifts.com, Inc., at cost 2,606 2,606 Note receivable from Gifts.com, Inc. 7,818 7,818 Other assets 60 37 ------------ ------------ Total assets $ 101,435 $ 101,052 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 16,148 $ 6,454 Accrued liabilities 4,443 5,146 Income taxes payable 1,384 477 Current portion of capital lease obligations 32 30 Current portion of long-term debt 1,428 1,639 Other 544 497 ------------ ------------ Total current liabilities 23,979 14,243 Capital lease obligations, less current portion 42 24 Long-term debt, less current portion 5,922 5,021 Deferred income taxes 446 583 Other -- 152 Stockholders' equity: Common stock 140 140 Additional paid-in capital 45,681 47,024 Cumulative translation adjustment 25 178 Unrealized loss on investments available for sale (596) (508) Retained earnings 25,796 34,195 ------------ ------------ Total stockholders' equity 71,046 81,029 ------------ ------------ Total liabilities and stockholders' equity $ 101,435 $ 101,052 ============ ============
See notes to condensed consolidated financial statements. 3 4 STARTEK, INC. AND SUBSIDIARIES Condensed Consolidated Income Statements (dollars in thousands, except per share data) (unaudited)
THREE MONTHS ENDED JUNE 30 SIX MONTHS ENDED JUNE 30 ----------------------------- ----------------------------- 1999 2000 1999 2000 ------------ ------------ ------------ ------------ Revenues $ 45,723 $ 41,589 $ 86,573 $ 91,257 Cost of services 37,216 31,224 70,380 69,682 ------------ ------------ ------------ ------------ Gross profit 8,507 10,365 16,193 21,575 Selling, general and administrative expenses 5,202 4,857 9,631 10,041 ------------ ------------ ------------ ------------ Operating profit 3,305 5,508 6,562 11,534 Net interest income and other 668 1,102 1,270 1,818 ------------ ------------ ------------ ------------ Income before income taxes 3,973 6,610 7,832 13,352 Income tax expense 1,483 2,452 2,915 4,953 ------------ ------------ ------------ ------------ Net income $ 2,490 $ 4,158 $ 4,917 $ 8,399 ============ ============ ============ ============ Earnings per share: Basic $ 0.18 $ 0.30 $ 0.36 $ 0.60 Diluted $ 0.18 $ 0.29 $ 0.36 $ 0.59
See notes to condensed consolidated financial statements. 4 5 STARTEK, INC. AND SUBSIDIARIES Condensed Consolidated Statements of Cash Flows (dollars in thousands) (unaudited)
SIX MONTHS ENDED JUNE 30 ------------------------------ 1999 2000 ------------ ------------ OPERATING ACTIVITIES Net income $ 4,917 $ 8,399 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 1,892 2,370 Deferred income taxes (354) (185) (Gain) loss on sale of assets 3 (84) Changes in operating assets and liabilities: Purchases of trading securities, net (2,150) (5,890) Trade accounts receivable, net 7,098 9,549 Inventories 1,072 2,702 Prepaid expenses and other assets (81) 29 Accounts payable (6,359) (9,577) Income taxes payable (1,316) (194) Accrued and other liabilities 1,875 823 ------------ ------------ Net cash provided by operating activities 6,597 7,942 INVESTING ACTIVITIES Purchases of investments available for sale (13,399) (10,874) Proceeds from disposition of investments available for sale 5,821 9,089 Purchases of property, plant and equipment (3,812) (1,967) Proceeds from disposition of property, plant and equipment 2 284 ------------ ------------ Net cash used in investing activities (11,388) (3,468) FINANCING ACTIVITIES Stock options exercised 187 665 Principal payments on borrowings, net (429) (690) Principal payments on capital lease obligations (33) (17) ------------ ------------ Net cash used in financing activities (275) (42) Effect of exchange rate changes on cash (232) 251 ------------ ------------ Net (decrease) increase in cash and cash equivalents (5,298) 4,683 Cash and cash equivalents at beginning of period 19,593 11,943 ------------ ------------ Cash and cash equivalents at end of period $ 14,295 $ 16,626 ============ ============ SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid for interest $ 141 $ 172 Income taxes paid $ 4,550 $ 5,572 Change in unrealized loss on investments available for sale, net of tax $ 368 $ 88
See notes to condensed consolidated financial statements. 5 6 STARTEK, INC. AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements (dollars in thousands, except per share data) (unaudited) 1. BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America for interim financial information and instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. Certain reclassifications have been made in the 1999 financial statements to conform to the 2000 presentation. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results during the three and six months ended June 30, 2000 are not necessarily indicative of the results that may be expected during the year ending December 31, 2000, or during any other interim period of 2000. The condensed consolidated balance sheet as of December 31, 1999 was derived from audited financial statements, but does not include all information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. For further information, refer to consolidated financial statements and footnotes thereto included in StarTek, Inc.'s annual report on Form 10-K for the year ended December 31, 1999. 2. DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133 ("SFAS No. 133") "Accounting for Derivative Instruments and Hedging Activities". SFAS No. 133 establishes accounting and reporting standards requiring derivative instruments (including certain derivative instruments embedded in other contracts) to be recorded as either assets or liabilities measured at fair value. SFAS No. 133 requires changes in a derivative's fair value to be recognized currently in income unless specific hedge accounting criteria are met. Special accounting for qualifying hedges allow a derivative's gains and losses to offset related results on the hedged item in the income statement, and requires a company to formally document, designate, and assess effectiveness of transactions receiving hedge accounting treatment. SFAS No. 133 is effective for the Company's fiscal quarters of fiscal years beginning after June 15, 2000. The Company has not yet quantified impacts of adopting SFAS No. 133 on its consolidated financial statements and has not determined timing or method of adoption of SFAS No. 133. 3. EARNINGS PER SHARE Basic earnings per share is computed based on weighted average number of common shares outstanding. Diluted earnings per share is computed based on weighted average number of common shares outstanding plus effects of outstanding stock options using the "treasury stock" method. Components of basic and diluted earnings per share were:
THREE MONTHS ENDED JUNE 30 SIX MONTHS ENDED JUNE 30 ----------------------------- ----------------------------- 1999 2000 1999 2000 ------------ ------------ ------------ ------------ Net income (A) $ 2,490 $ 4,158 $ 4,917 $ 8,399 ------------ ------------ ------------ ------------ Weighted average shares of common stock (B) 13,832,246 14,012,885 13,830,419 14,001,034 Dilutive effect of stock options -- 373,010 -- 337,966 ------------ ------------ ------------ ------------ Common stock and common stock equivalents (C) 13,832,246 14,385,895 13,830,419 14,339,000 ============ ============ ============ ============ Earnings per share: Basic (A/B) $ 0.18 $ 0.30 $ 0.36 $ 0.60 Diluted (A/C) $ 0.18 $ 0.29 $ 0.36 $ 0.59
6 7 STARTEK, INC. AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements (continued) (dollars in thousands, except per share data) (unaudited) 4. COMPREHENSIVE INCOME Financial Accounting Standards Board Statement No. 130, "Reporting Comprehensive Income", establishes standards for reporting and display of comprehensive income. Comprehensive income is defined essentially as all changes in stockholders' equity, exclusive of transactions with owners. Comprehensive income was $2,742 and $4,497 for the three months ended June 30, 1999 and 2000, respectively. Comprehensive income was $5,140 and $8,640 for the six months ended June 30, 1999 and 2000, respectively. 5. INVESTMENTS As of December 31, 1999, investments available for sale consisted of:
GROSS GROSS ESTIMATED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE ------------ ------------ ------------ ------------ Corporate bonds $ 14,472 $ 141 $ (577) $ 14,036 Foreign government bonds 3,418 155 -- 3,573 Bond mutual funds 1,992 -- (142) 1,850 Equity securities 3,835 184 (717) 3,302 ------------ ------------ ------------ ------------ Total $ 23,717 $ 480 $ (1,436) $ 22,761 ============ ============ ============ ============
As of June 30, 2000, investments available for sale consisted of:
GROSS GROSS ESTIMATED UNREALIZED UNREALIZED FAIR COST GAINS LOSSES VALUE ------------ ------------ ------------ ------------ Corporate bonds $ 14,461 $ 289 $ (508) $ 14,242 Foreign government bonds 1,438 112 -- 1,550 Bond mutual funds 2,316 -- (56) 2,260 Equity securities 7,306 80 (743) 6,643 ------------ ------------ ------------ ------------ Total $ 25,521 $ 481 $ (1,307) $ 24,695 ============ ============ ============ ============
As of June 30, 2000, amortized costs and estimated fair values of investments available for sale by contractual maturity were:
ESTIMATED COST FAIR VALUE ------------ ------------ Corporate bonds and foreign government bonds maturing within: One year $ 8,662 $ 8,960 Two to five years 5,799 5,282 Due after five years 1,438 1,550 ------------ ------------ 15,899 15,792 Bond mutual funds 2,316 2,260 Equity securities 7,306 6,643 ------------ ------------ Total $ 25,521 $ 24,695 ============ ============
Bond mutual funds were primarily invested in investment grade bonds of US and foreign issuers denominated in US and foreign currencies, and interests in floating or variable rate senior collateralized loans to corporations, partnerships, and other entities in a variety of industries and geographic regions. Equity securities primarily consisted of real estate investment trusts, equity mutual funds, and publicly traded common stock of US based companies. 7 8 STARTEK, INC. AND SUBSIDIARIES Notes to Condensed Consolidated Financial Statements (continued) (dollars in thousands, except per share data) (unaudited) 5. INVESTMENTS (CONTINUED) As of December 31, 1999, the Company was also invested in trading securities which, in the aggregate, had an original cost and fair market value of approximately $1,429 and $1,146, respectively. As of June 30, 2000, the Company was invested in trading securities which, in the aggregate, had an original cost and fair market value of approximately $6,845 and $7,036, respectively, and primarily consisted of publicly traded common stock of US based companies and international equity mutual funds. Trading securities were held to meet short-term investment objectives. From time to time, the Company enters into hedging and derivative securities in an effort to maximize its return on investments in trading securities while managing risk. As of June 30, 2000, the Company was not invested in hedging or derivative securities. Risk of loss to the Company in the event of nonperformance by any party is not considered substantial. Because of potential limited liquidity of some of these instruments, recorded values of these transactions may be different from values that might be realized if the Company were to sell or close out the transactions. Such differences are not considered substantial to the Company's results of operations, financial condition, or liquidity. Hedging and derivative securities may involve elements of credit and market risks in excess of the amounts recognized in the Company's financial statements. A substantial decline and/or change in value of equity securities, equity prices in general, international equity mutual funds, hedging securities, and derivative securities could have a material adverse effect on the Company's trading securities. Also, the price of common stock, hedging securities, and other derivative securities held by the Company as trading securities would be materially and adversely affected by poor management, shrinking product demand, and other risks that may affect single companies, as well as groups of companies. 6. INVENTORIES The Company purchases components of its clients' products as an integral part of its process management services. At the close of an accounting period, packaged and assembled products (together with other associated costs) are reflected as finished goods inventories pending shipment. The Company generally has the right to be reimbursed from its clients for unused inventories. Client-owned inventories are not reflected in the Company's balance sheet. Inventories consisted of:
DECEMBER 31 JUNE 30 1999 2000 ------------ ------------ Purchased components and fabricated assemblies $ 1,986 $ 594 Finished goods 1,754 333 ------------ ------------ $ 3,740 $ 927 ============ ============
7. GIFTS.COM, INC. During the three months ended June 30, 2000, the Company recognized approximately $270 of revenues related to services performed for Gifts.com, Inc., and approximately $173 of interest income. During the six months ended June 30, 2000, the Company recognized approximately $875 of revenues related to services performed for Gifts.com, Inc., and approximately $331 of interest income. Accounts receivable of $121 plus regular quarterly interest of $173 were due from Gifts.com, Inc. as of June 30, 2000. Amounts owed from Gifts.com, Inc. were current. 8. PRINCIPAL CLIENTS One client accounted for approximately 77.3% of the Company's revenues during the three months ended June 30, 1999. Three clients accounted for approximately 67.2%, 14.3%, and 10.4% of revenues during the three months ended June 30, 2000. The loss of a principal client and/or changes in timing or termination of a principal client's product launch or service offering would have a material adverse effect on the Company's business, revenues, operating results, and financial condition. To limit the Company's credit risk, management performs ongoing credit evaluations of its clients. Although the Company is directly impacted by economic conditions in which its clients operate, management does not believe substantial credit risk existed as of June 30, 2000. 9. SUBSEQUENT EVENT On August 2, 2000, as part of the plan for fiscal 2001 for Gifts.com, Inc., the Company, through its wholly-owned subsidiary Domain.com, Inc., agreed to advance an additional $995 loan to Gifts.com, Inc. under the same terms and conditions as those set forth in the $7,818 loan agreement effective November 1, 1999. 8 9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS All statements contained in this "Management's Discussion and Analysis of Financial Condition and Results of Operations" or elsewhere in this Form 10-Q not statements of historical facts are forward-looking statements that involve substantial risks and uncertainties. Forward-looking statements are preceded by terms such as "may", "will", "should", "anticipates", "expects", "believes", "plans", "future", "estimate", "continue", and similar expressions. The following are important factors that could cause actual results to differ materially from those expressed or implied by such forward-looking statements; these include, but are not limited to, inflation and general economic conditions in the Company's and its clients' markets, risks associated with the Company's reliance on principal clients, loss or delayed implementation of a large project or service offering for a principal client, which could cause quarterly variation in the Company's revenues and earnings, difficulties in managing rapid growth, risks associated with rapidly changing technology, dependence on labor force, risks associated with international operations and expansion, control by principal stockholders, dependence on key personnel, dependence on key industries and trends toward outsourcing, risks associated with the Company's contracts, highly competitive markets, risks of business interruptions, volatility of the Company's stock price, risks related to the Company's investment in and note receivable from Gifts.com, Inc., risks related to the Company's Internet web site operations, and risks related to the Company's portfolio of Internet domain names. These factors include risks and uncertainties beyond the Company's ability to control; and, in many cases, the Company and its management cannot predict the risks and uncertainties that could cause actual results to differ materially from those indicated by use of forward-looking statements. All forward-looking statements herein are made as of the date hereof, and the Company undertakes no obligation to update any such forward-looking statements. All forward-looking statements herein are qualified in their entirety by information set forth in "Management's Discussion and Analysis of Financial Condition and Results of Operations"--"Factors That May Affect Future Results" section of the Company's annual report on Form 10-K for the year ended December 31, 1999. The following table sets forth certain unaudited condensed consolidated income statement data expressed as a percentage of revenues:
THREE MONTHS ENDED JUNE 30 SIX MONTHS ENDED JUNE 30 1999 2000 1999 2000 ------------ ------------ ------------ ------------ Revenues 100.0% 100.0% 100.0% 100.0% Cost of services 81.4 75.1 81.3 76.4 ------------ ------------ ------------ ------------ Gross profit 18.6 24.9 18.7 23.6 Selling, general and administrative expenses 11.4 11.7 11.1 11.0 ------------ ------------ ------------ ------------ Operating profit 7.2 13.2 7.6 12.6 Net interest income and other 1.5 2.7 1.5 2.0 ------------ ------------ ------------ ------------ Income before income taxes 8.7 15.9 9.1 14.6 Income tax expense 3.2 5.9 3.4 5.4 ------------ ------------ ------------ ------------ Net income 5.5% 10.0% 5.7% 9.2% ============ ============ ============ ============
THREE MONTHS ENDED JUNE 30, 2000 COMPARED TO THREE MONTHS ENDED JUNE 30, 1999 Revenues. Revenues decreased $4.1 million, or 9.0%, from $45.7 million during the three months ended June 30, 1999 to $41.6 million during the three months ended June 30, 2000. This decrease was largely due to a client's rescheduling of a major product launch from the second quarter to the third quarter of 2000, and the culling of less profitable accounts. Cost of Services. Cost of services decreased $6.0 million, or 16.1%, from $37.2 million during the three months ended June 30, 1999 to $31.2 million during the three months ended June 30, 2000. As a percentage of revenues, cost of services was 81.4% and 75.1% during the three months ended June 30, 1999 and 2000, respectively. This percentage decreased primarily due to an improving mix of business and stringent cost controls. Gross Profit. Due to the foregoing factors, gross profit increased $1.9 million, or 21.8%, from $8.5 million during the three months ended June 30, 1999 to $10.4 million during the three months ended June 30, 2000. As a percentage of revenues, gross profit was 18.6% and 24.9% during the three months ended June 30, 1999 and 2000, respectively. Selling, General and Administrative Expenses. Selling, general and administrative expenses decreased $0.3 million, or 6.6%, from $5.2 million during the three months ended June 30, 1999 to $4.9 million during the three months ended June 30, 2000, primarily as a result of decreased personnel and expansion costs. As a percentage of revenues, selling, general and administrative expenses were 11.4% and 11.7% during the three months ended June 30, 1999 and 2000, respectively. Operating Profit. As a result of the foregoing factors, operating profit increased from $3.3 million during the three months ended June 30, 1999 to $5.5 million during the three months ended June 30, 2000. As a percentage of revenues, operating profit was 7.2% and 13.2% during the three months ended June 30, 1999 and 2000, respectively. 9 10 Net Interest Income and Other. Net interest income and other was approximately $0.7 million during the three months ended June 30, 1999 and $1.1 million during the three months ended June 30, 2000. The majority of net interest income and other continues to be derived from cash equivalents and investment balances, partially offset by interest expense incurred as a result of the Company's various debt and lease arrangements. Income Before Income Taxes. As a result of the foregoing factors, income before income taxes increased $2.6 million, or 66.4%, from $4.0 million during the three months ended June 30, 1999 to $6.6 million during the three months ended June 30, 2000. As a percentage of revenues, income before income taxes increased from 8.7% during the three months ended June 30, 1999 to 15.9% during the three months ended June 30, 2000. Income Tax Expense. Income tax expense during the three months ended June 30, 1999 and 2000 reflects a provision for federal, state, and foreign income taxes at an effective rate of 37.3% and 37.1%, respectively. Net Income. Based on the factors discussed above, net income increased $1.7 million, or 67.0%, from $2.5 million during the three months ended June 30, 1999 to $4.2 million during the three months ended June 30, 2000. SIX MONTHS ENDED JUNE 30, 2000 COMPARED TO SIX MONTHS ENDED JUNE 30, 1999 Revenues. Revenues increased $4.7 million, or 5.4%, from $86.6 million during the six months ended June 30, 1999 to $91.3 million during the six months ended June 30, 2000. This increase was primarily from existing and new clients, partially offset by a client's rescheduling of a major product launch from the second quarter to the third quarter of 2000, and the culling of less profitable accounts. Cost of Services. Cost of services decreased $0.7 million, or 1.0%, from $70.4 million during the six months ended June 30, 1999 to $69.7 million during the six months ended June 30, 2000. As a percentage of revenues, cost of services was 81.3% and 76.4% during the six months ended June 30, 1999 and 2000, respectively. This percentage declined mainly as a result of improved processes, better operating efficiency, and changes in the mix of services performed. Gross Profit. Due to the foregoing factors, gross profit increased $5.4 million, or 33.2%, from $16.2 million during the six months ended June 30, 1999 to $21.6 million during the six months ended June 30, 2000. As a percentage of revenues, gross profit was 18.7% and 23.6% during the six months ended June 30, 1999 and 2000, respectively. Selling, General and Administrative Expenses. Selling, general and administrative expenses increased $0.4 million, or 4.3%, from $9.6 million during the six months ended June 30, 1999 to $10.0 million during the six months ended June 30, 2000. As a percentage of revenues, selling, general and administrative expenses decreased from 11.1% during the six months ended June 30, 1999 to 11.0% during the six months ended June 30, 2000. Operating Profit. As a result of the foregoing factors, operating profit increased from $6.6 million during the six months ended June 30, 1999 to $11.5 million during the six months ended June 30, 2000. As a percentage of revenues, operating profit was 7.6% and 12.6% during the six months ended June 30, 1999 and 2000, respectively. Net Interest Income and Other. Net interest income and other was $1.3 million during the six months ended June 30, 1999 and $1.8 million during the six months ended June 30, 2000. The majority of net interest income and other continues to be derived from cash equivalents and investment balances, partially offset by interest expense incurred as a result of the Company's various debt and lease arrangements. Income Before Income Taxes. As a result of the foregoing factors, income before income taxes increased $5.6 million, or 70.5%, from $7.8 million during the six months ended June 30, 1999 to $13.4 million during the six months ended June 30, 2000. As a percentage of revenues, income before income taxes increased from 9.1% during the six months ended June 30, 1999 to 14.6% during the six months ended June 30, 2000. Income Tax Expense. Income tax expense during the six months ended June 30, 1999 and 2000 reflects a provision for federal, state, and foreign income taxes at an effective rate of 37.2% and 37.1%, respectively. Net Income. Based on the factors discussed above, net income increased $3.5 million, or 70.8%, from $4.9 million during the six months ended June 30, 1999 to $8.4 million during the six months ended June 30, 2000. 10 11 LIQUIDITY AND CAPITAL RESOURCES In June 1997 the Company completed an initial public offering of its common stock, which yielded net proceeds to the Company of approximately $41.0 million. The Company applied such proceeds to repay substantially all of its then outstanding debt and for working capital and other general corporate purposes, including capital expenditures to expand operating capacity. Since fully applying net proceeds received from its June 1997 initial public offering, the Company has primarily financed its operations, liquidity requirements, capital expenditures, and capacity expansion through cash flows from operations and, to a lesser degree, through various forms of debt financing and leasing arrangements. The Company maintains a $5.0 million line of credit with Norwest Bank Colorado, N.A. (the "Bank") maturing on April 30, 2001. Borrowings under the line of credit bear interest at the Bank's prime rate (9.5% as of June 30, 2000). Under this line of credit, the Company is required to maintain working capital of $17.5 million and tangible net worth of $25.0 million. The Company may not pay dividends in an amount which would cause a failure to meet these financial covenants. As of June 30, 2000 and the date of this Form 10-Q, the Company was in compliance with these financial covenants. Collateral for the line of credit is trade accounts receivable of certain of the Company's wholly-owned subsidiaries. As of June 30, 2000 and the date of this Form 10-Q, no amount was outstanding under the line of credit. As of June 30, 2000, the Company had cash, cash equivalents, and investment balances of $48.4 million, working capital of $50.3 million, and stockholders' equity of $81.0 million. The Company's cash and cash equivalents are not restricted. As of June 30, 2000, investments available for sale primarily consisted of corporate bonds, foreign government bonds denominated in US dollars, bond mutual funds, real estate investment trusts, equity mutual funds, and publicly traded common stock of US based companies. As of June 30, 2000, trading securities generally consisted of publicly traded common stock of US based companies, and international equity mutual funds. As of June 30, 2000, the Company's investments available for sale and trading securities could be materially and adversely affected by: (i) various domestic and foreign economic conditions, such as recession, increasing interest rates, adverse foreign currency exchange fluctuations, foreign and domestic inflation, and other factors; (ii) the inability of certain corporations to repay their debts, including interest amounts, to the Company; and (iii) changes in market price of common stocks and international equity mutual funds due to the level of trading in such securities, and other risks generally attributable to US based publicly traded companies. See "Quantitative and Qualitative Disclosure About Market Risk" set forth herein for further discussions regarding the Company's cash, cash equivalents, investments available for sale, and trading securities. On August 2, 2000, as part of the plan for fiscal 2001 for Gifts.com, Inc., the Company, through its wholly-owned subsidiary Domain.com, Inc., agreed to advance an additional $1.0 million loan to Gifts.com, Inc. under the same terms and conditions as those set forth in the $7.8 million loan agreement effective November 1, 1999. Net cash provided by operating activities increased from $6.6 million during the six months ended June 30, 1999 to $7.9 million during the six months ended June 30, 2000. This increase was primarily a result of increased net income and changes in operating assets and liabilities, partially offset by an increase in net purchases of trading securities. Net cash used in investing activities was $11.4 million during the six months ended June 30, 1999 and $3.5 million during the six months ended June 30, 2000. This decrease was primarily due to a decrease in purchases of property, plant, and equipment together with a decrease in net purchases of investments available for sale. Net cash used in financing activities was $0.3 million and $0.1 million during the six months ended June 30, 1999 and 2000, respectively. Net cash used in financing activities during both periods consisted of principal payments on borrowings and capital lease obligations, partially offset by proceeds from exercises of employee stock options. The effect of currency exchange rate changes on the translation of the Company's United Kingdom and Singapore operations was not substantial during the six months ended June 30, 2000. The terms of the Company's agreements with its clients and subcontractors are typically in US dollars except for certain agreements related to its United Kingdom and Singapore operations. If the international portion of the Company's business continues to grow, more revenues and expenses will be denominated in foreign currencies, and this will increase the Company's exposure to fluctuations in currency exchange rates. See "Quantitative and Qualitative Disclosure About Market Risk" set forth herein for a further discussion of the Company's exposure to foreign currency exchange risks in connection with certain of its investments. 11 12 Management believes the Company's cash, cash equivalents, investments, anticipated cash flows from future operations, and $5.0 million of currently available financing under its line of credit will be sufficient to support its operations, capital expenditures, and various repayment obligations under its debt and lease agreements for the foreseeable future. However, liquidity and capital requirements depend on many factors, including, but not limited to, the Company's ability to retain or successfully and timely replace its principal clients and the rate at which the Company expands its business, whether internally or through acquisitions and strategic alliances. To the extent funds generated from sources described above are insufficient to support the Company's activities in the short or long-term, the Company will be required to raise additional funds through public or private financing. No assurance can be given additional financing will be available, or if available, it will be available on terms favorable to the Company. INFLATION AND GENERAL ECONOMIC CONDITIONS Although management cannot accurately anticipate effects of domestic and foreign inflation on the Company's operations, management does not believe inflation has had, or is likely in the foreseeable future to have, a material adverse effect on the Company's results of operations or financial condition. RELIANCE ON PRINCIPAL CLIENT RELATIONSHIPS Microsoft Corporation ("Microsoft") accounted for approximately 77.3% and 67.2 % of the Company's revenues during the three months ended June 30, 1999 and 2000, respectively. AT&T Corporation accounted for less than 10.0% and approximately 14.3% of the Company's revenues during the three months ended June 30, 1999 and 2000, respectively. America Online, Inc. accounted for less than 10.0% and approximately 10.4% of the Company's revenues during the three months ended June 30, 1999 and 2000, respectively. The loss of a principal client and/or changes in timing or termination of a principal client's product launch or service offering would have a material adverse effect on the Company's business, revenues, operating results, and financial condition. The Company provides various outsourced services to various divisions of Microsoft, which began its outsourcing relationship with the Company in April 1996. There can be no assurance the Company will be able to retain its principal client(s) or, if it were to lose its principal client(s), would be able to timely replace such clients with clients that generate a comparable amount of revenues. Additionally, the amount and growth rate of revenues derived from its principal clients in the past is not necessarily indicative of revenues that may be expected from such clients in the future. VARIABILITY OF QUARTERLY OPERATING RESULTS The Company's business is highly seasonal and is at times conducted in support of product launches for new and existing clients. Historically, the Company's revenues have been substantially lower in the quarters preceding the fourth quarter due to timing of its clients' marketing programs and product launches, which are typically geared toward the holiday buying season. However, the Company's revenues and operating results during the three and six months ended June 30, 2000 are not necessarily indicative of the revenues or operating results that may be expected during the year ending December 31, 2000, or during any other interim period of 2000. Additionally, the Company has experienced and expects to continue to experience, quarterly variations in revenues and operating results as a result of a variety of factors, many of which are outside the Company's control, including: (i) timing of existing and future client product launches or service offerings; (ii) expiration or termination of client projects; (iii) timing and amount of costs incurred to expand capacity in order to provide for further revenue growth from existing and future clients; (iv) seasonal nature of certain clients' businesses; (v) cyclical nature of certain high technology clients' businesses; and (vi) changes in the amount and growth rate of revenues generated from the Company's principal clients. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK The following discusses the Company's exposure to market risks related to changes in interest rates and other general market risks, equity market prices and other general market risks, and foreign currency exchange rates. All of the Company's investment decisions are supervised or managed by its Chairman of the Board. The Company's investment portfolio policy, which was approved by the Board of Directors during 1999, provides for, among other things, investment objectives and investment portfolio allocation guidelines. This discussion contains forward-looking statements subject to risks and uncertainties. Actual results could vary materially as a result of a number of factors, including but not limited to, changes in interest rates and other general market risks, equity market prices and other general market risks, foreign currency exchange rates, and those set forth in the "Management's Discussion and Analysis of Financial Condition and Results of Operations"--"Factors That May Affect Future Results" section of the Company's annual report on Form 10-K for the year ended December 31, 1999. 12 13 Interest Rate Sensitivity and Other General Market Risks Cash and Cash Equivalents. As of June 30, 2000, the Company had $16.6 million in cash and cash equivalents, which was not restricted, and consisted of: (i) approximately $15.6 million invested in various money market funds, overnight investments, and various commercial paper securities at a combined weighted average interest rate of approximately 6.3%; and (ii) approximately $1.0 million in various non-interest bearing accounts. Management considers cash equivalents to be short-term, highly liquid investments readily convertible to known amounts of cash, and so near their maturity they present insignificant risk of changes in value because of changes in interest rates. The Company does not expect any substantial loss with respect to its cash and cash equivalents as a result of interest rate changes, and the estimated fair value of its cash and cash equivalents approximates original cost. Investments Available for Sale. As of June 30, 2000, the Company had investments available for sale, which, in the aggregate, had an original cost and fair market value of $25.5 million and $24.7 million, respectively. These investments available for sale generally consisted of corporate bonds, foreign government bonds denominated in US dollars, bond mutual funds, and various forms of equity securities. The Company's investment portfolio is subject to interest rate risk and will fall in value if interest rates increase. Fair market value of and estimated cash flows from the Company's investments in corporate bonds are substantially dependent upon credit worthiness of certain corporations expected to repay their debts, including interest, as they become due, to the Company. If such corporations' financial condition and liquidity adversely changes, the Company's investments in their debts can be expected to be materially and adversely affected. The Company's investments in foreign government bonds denominated in US dollars entail special risks of global investing. These risks include, but are not limited to: (i) currency exchange fluctuations which could adversely affect the ability of foreign governments to repay their debts in US dollars; (ii) foreign government regulations; and (iii) potential for political and economic instability. Fair market value of investments in foreign government bonds (denominated in US dollars) can be expected to be more volatile than that of US government bonds. These risks are intensified for the Company's investments in debt of foreign governments located in countries generally considered to be emerging markets. The table below provides information about maturity dates and corresponding weighted average interest rates related to certain of the Company's investments available for sale as of June 30, 2000:
WEIGHTED EXPECTED MATURITY DATE AVERAGE --COST-- INTEREST RATES (DOLLARS IN THOUSANDS) ------------------------------------------------------------------------------------ ---------------------- 1 year 2 years 3 years 4 years 5 years Thereafter Total FAIR VALUE ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- Corporate bonds 6.70% $ 8,662 $ 8,662 $ 8,960 Corporate bonds 8.25% $ 3,971 3,971 3,920 Corporate bonds 5.19% $ 818 818 461 Corporate bonds 5.69% $ 1,010 1,010 901 Foreign government bonds 9.26% $ 1,438 1,438 1,550 ---------- ---------- ---------- ---------- ---------- ---------- ---------- ---------- Total $ 8,662 $ 3,971 -- $ 818 $ 1,010 $ 1,438 $ 15,899 $ 15,792 ========== ========== ========== ========== ========== ========== ========== ==========
Management believes the Company has the ability to hold the foregoing investments until maturity, and therefore, if held to maturity, the Company would not expect the future proceeds from these investments to be affected, to any significant degree, by the effect of a sudden change in market interest rates. Declines in interest rates over time will, however, reduce the Company's interest income derived from future investments. As of June 30, 2000 and as part of its investments available for sale portfolio, the Company was invested in: (i) various bond mutual funds which, in the aggregate, had both an original cost and fair market value of approximately $2.3 million; and (ii) equity securities which, in the aggregate, had an original cost and fair market value of approximately $7.3 million and $6.6 million, respectively. 13 14 Debt securities within bond mutual funds as of June 30, 2000: (i) had a weighted average yield of approximately 7.2%, and a weighted average maturity of approximately 1.7 years; (ii) are primarily invested in investment grade bonds of US and foreign issuers denominated in US and foreign currencies, and interests in floating or variable rate senior collateralized loans to corporations, partnerships, and other entities in a variety of industries and geographic regions; (iii) include certain foreign currency risk hedging instruments which are intended to reduce fair market value fluctuations; (iv) are subject to interest rate risk and will fall in value if market interest rates increase; and (v) are subject to the quality of underlying securities within the mutual funds. The Company's investments in bond mutual funds entail special risks of global investing, including, but not limited to: (i) currency exchange fluctuations; (ii) foreign government regulations; and (iii) potential for political and economic instability. Fair market value of the Company's investments in bond mutual funds can be expected to be more volatile than that of a US-only fund. These risks are intensified for certain investments in debt of foreign governments (included in bond mutual funds) which are located in countries generally considered to be emerging markets. Additionally, certain bond mutual fund investments are also subject to the effect of leverage, which in a declining market can be expected to result in a greater decrease in fair market value than if such investments were not leveraged. Outstanding Debt of the Company. As of June 30, 2000, the Company had outstanding debt of approximately $6.7 million, approximately $2.3 million of which bears interest at an annual fixed rate of 7.0%, and approximately $2.3 million of which bears no interest, as long as the Company complies with the terms of this debt arrangement. On October 22, 1999, the Company completed an equipment loan, $1.7 million outstanding as of June 30, 2000, whereby the Company is expected to repay its debt at a variable rate of interest (7.9 % as of June 30, 2000) over a forty-eight month period. Management believes a hypothetical 10.0% increase in interest rates would not have a material adverse effect on the Company. Increases in interest rates could, however, increase interest expense associated with the Company's existing variable rate equipment loan and future borrowings by the Company, if any. For example, the Company may from time to time effect borrowings under its $5.0 million line of credit for general corporate purposes, including working capital requirements, capital expenditures and other purposes related to expansion of the Company's capacity. Borrowings under the $5.0 million line of credit bear interest at the lender's prime rate (9.5 % as of June 30, 2000). As of June 30, 2000, the Company had no outstanding line of credit obligations. The Company has not hedged against interest rate changes. Equity Price Risks and Other General Market Risks Equity Securities. As of June 30, 2000, the Company held in its investments available for sale portfolio certain equity securities with original cost and fair market value, in the aggregate, of $7.3 million and $6.6 million, respectively. The Company's investments in equity securities primarily consisted of real estate investment trusts, equity mutual funds, and publicly traded common stock of US based companies. A substantial decline in values of equity securities and equity prices in general would have a material adverse affect on the Company's equity investments. Also, prices of common stocks held by the Company would be materially and adversely affected by poor management, shrinking product demand, and other risks that may affect single companies, as well as groups of companies. The Company has partially hedged against some equity price changes. Trading Securities. As of June 30, 2000, the Company was invested in trading securities which, in the aggregate, had an original cost and fair market value of approximately $6.8 million and $7.1 million, respectively, and primarily consisted of publicly traded common stock of US based companies and international equity mutual funds. Trading securities were held to meet short-term investment objectives. From time to time, the Company enters into hedging and derivative securities in an effort to maximize its return on investments in trading securities while managing risk. As of June 30, 2000, the Company was not invested in hedging or derivative securities. Risk of loss to the Company in the event of nonperformance by any party is not considered substantial. Because of potential limited liquidity of some of these instruments, recorded values of these transactions may be different from values that might be realized if the Company were to sell or close out the transactions. Such differences are not considered substantial to the Company's results of operations, financial condition, or liquidity. Hedging and derivative securities may involve elements of credit and market risks in excess of the amounts recognized in the Company's financial statements. A substantial decline and/or change in value of equity securities, equity prices in general, international equity mutual funds, hedging securities, and derivative securities could have a material adverse effect on the Company's trading securities. Also, the price of common stock, hedging securities, and other derivative securities held by the Company as trading securities would be materially and adversely affected by poor management, shrinking product demand, and other risks that may affect single companies, as well as groups of companies. 14 15 Foreign Currency Exchange Risks Approximately 22.0% of the Company's revenues during the three months ended June 30, 2000 were derived from arrangements whereby the Company received payments from its clients in currencies other than US dollars. Terms of the Company's agreements with its clients and subcontractors are typically in US dollars except for certain agreements related to its United Kingdom and Singapore operations. If an arrangement provides for the Company to receive payments in a foreign currency, revenues realized from such an arrangement may be less if the value of such foreign currency declines. Similarly, if an arrangement provides for the Company to make payments in a foreign currency, cost of services and operating expenses for such an arrangement may be more if the value of such foreign currency increases. For example, a 10% change in the relative value of such foreign currency could cause a related 10% change in the Company's previously expected revenues, cost of services, and operating expenses. If the international portion of the Company's business continues to grow, more revenues and expenses will be denominated in foreign currencies, and this will increase the Company's exposure to fluctuations in currency exchange rates. In the past, the Company has not hedged against foreign currency exchange rate changes related to its United Kingdom and Singapore operations. Certain of the Company's investments classified as bond mutual funds (discussed in further detail above as part of "Interest Rate Sensitivity and Other General Market Risks") include investments in various forms of currency risk hedging instruments which are intended to reduce fair market value fluctuations of such mutual funds. PART II. OTHER INFORMATION ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS (c) Sales of Unregistered Securities The Company did not issue or sell unregistered securities during the three months ended June 30, 2000, except as follows: On April 3, 2000, the Company granted options to purchase 14,800 shares of common stock, in the aggregate, to 148 employees pursuant to the Company's Stock Option Plan. These options vest at a rate of 20% per year beginning April 3, 2001, expire April 3, 2010, and are exercisable at price of $74.00 per share, which was the market value of the Company's common stock on the date the options were granted. On May 17, 2000, the Company granted options to purchase 12,000 shares of common stock, in the aggregate, to 32 employees pursuant to the Company's Stock Option Plan. These options vest at a rate of 20% per year beginning May 17, 2001, expire May 17, 2010, and are exercisable at a price of $65.00 per share, which was the market value of the Company's common stock on the date the options were granted. On May 17, 2000, the Company granted options to purchase 6,000 shares of common stock, in the aggregate, to two non-employee directors pursuant to the Company's Director Stock Option Plan. These options immediately and fully vested May 17, 2000, expire May 17, 2010, and are exercisable at a price of $65.00 per share, which was the market value of the Company's common stock on the date the options were granted. The foregoing stock option grants were made in reliance upon exemptions from registration provided by Sections 4(2) and 3(b) of the Securities Act of 1933, as amended, and the regulations promulgated thereunder. 15 16 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS (a) On May 17, 2000, the Company held its 2000 annual meeting of shareholders (the "Annual Meeting"). (b) One matter voted on at the Annual Meeting was the election of all four directors of the Company. The four nominees who were all existing directors of the Company, were re-elected at the Annual Meeting as directors of the Company, receiving the number and percentage of votes for election as set forth below:
NOMINEES FOR ELECTION WITHHELD -------- ------------ -------- A. Emmet Stephenson, Jr. 10,154,065 (92.36%) 840,458 (07.64%) ---------- ------- Michael W. Morgan 10,796,100 (98.20%) 198,423 (01.80%) ---------- ------- Ed Zschau 10,796,006 (98.19%) 198,517 (01.81%) ---------- ------- Jack D. Rehm 10,796,006 (98.19%) 198,517 (01.81%) ---------- -------
(c.1) Another matter voted upon at the Annual Meeting was a proposal to amend the Company's Certificate of Incorporation to increase the number of shares of common stock that the Company has the authority to issue, from 18,000,000 shares to 32,000,000 shares. This proposal, which was approved, received the number and percentage of votes as set forth below:
VOTES ----- For 10,712,762 (97.44%) ----------- Against 278,118 (02.53%) ----------- Abstain 3,643 (00.03%) -----------
(c.2) The only other matter voted upon at the Annual Meeting was a proposal to ratify and approve the selection of Ernst & Young LLP as the Company's independent auditors for 2000. This proposal, which was approved, received the number and percentage of votes as set forth below:
VOTES ----- For 10,984,920 (99.91%) ----------- Against 6,290 (00.06%) ----------- Abstain 3,313 (00.03%) -----------
(d) Not applicable ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 3.4 Certificate of Amendment to the Certificate of Incorporation of StarTek, Inc. filed with the Delaware Secretary of State on May 23, 2000. *10.27 StarTek Pacific, Ltd. Manufacturing Agreement dated as of January 1, 1998. 10.28 StarTek Pacific, Ltd. Supplemental Manufacturing Agreement dated as of January 1, 1998. 27.1 Financial Data Schedule. ---------- *Certain portions of the exhibit have been omitted pursuant to a request for confidential treatment and have been filed separately with the Securities and Exchange Commission. (b) Reports on Form 8-K No reports on Form 8-K were filed by the Company during the three months ended June 30, 2000. 16 17 SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. STARTEK, INC. ------------------------------------- (Registrant) Date: August 14, 2000 /s/ MICHAEL W. MORGAN -------------------------- ------------------------------------- Michael W. Morgan President and Chief Executive Officer Date: August 14, 2000 /s/ DENNIS M. SWENSON -------------------------- ------------------------------------- Dennis M. Swenson Executive Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) 17 18 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION ------- ----------- 3.4 Certificate of Amendment to the Certificate of Incorporation of StarTek, Inc. filed with the Delaware Secretary of State on May 23, 2000. *10.27 StarTek Pacific, Ltd. Manufacturing Agreement dated as of January 1, 1998. 10.28 StarTek Pacific, Ltd. Supplemental Manufacturing Agreement dated as of January 1, 1998. 27.1 Financial Data Schedule.
---------- *Certain portions of the exhibit have been omitted pursuant to a request for confidential treatment and have been filed separately with the Securities and Exchange Commission.