-----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, Nf9DDSmCkMcysnPxLVQV/lcTiOGxV03N/TbxTLOrDxy7lfvTpUd84NMM+hyjPaCD kRxCFEPtUMLMF8TGiktcrQ== 0000811664-98-000010.txt : 19980422 0000811664-98-000010.hdr.sgml : 19980422 ACCESSION NUMBER: 0000811664-98-000010 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 12 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980421 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: WORLDCORP INC CENTRAL INDEX KEY: 0000811664 STANDARD INDUSTRIAL CLASSIFICATION: AIR TRANSPORTATION, NONSCHEDULED [4522] IRS NUMBER: 943040585 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-09591 FILM NUMBER: 98597784 BUSINESS ADDRESS: STREET 1: 13873 PARK CTR RD STE 490 CITY: HERNDON STATE: VA ZIP: 22071 BUSINESS PHONE: 7038349200 MAIL ADDRESS: STREET 1: 13873 PARK CENTER ROAD CITY: HERNDON STATE: VA ZIP: 22071 10-K 1 WORLDCORP 10-K 1997 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 -------------- FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 -------------- For the fiscal year ended: December 31, 1997 Commission File Number 1-5351 WORLDCORP, INC. (Exact name of registrant as specified in its charter) DELAWARE 94-3040585 (State of incorporation) (I.R.S. Employer Identification Number) 13873 Park Center Road, Suite 490, Herndon, VA 22071 (Address of Principal Executive Offices) (703) 834-9200 (Registrant's telephone number) Securities registered pursuant to Section 12(b) of the Act: Title of Each Class: Common Stock par value $1.00 per share Name of Each Exchange on Which Registered: New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: NONE 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 State 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 held by non-affiliates of the registrant on March 31, 1998 was approximately $11,888,015. The number of shares of the registrant's Common Stock outstanding on March 31, 1998 was 13,883,243. DOCUMENTS INCORPORATED BY REFERENCE Portions of WorldCorp, Inc.'s Notice of Annual Stockholder's Meeting and Proxy Statement, to be filed within 120 days after the end of the registrant's fiscal year, are incorporated into Part III of this Report. WORLDCORP, INC. 1997 ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS Page PART I ITEM 1. BUSINESS 3 ITEM 2. PROPERTIES 17 ITEM 3. LEGAL PROCEEDINGS 18 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 18 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK & RELATED SECURITY HOLDER MATTERS 19 ITEM 6. SELECTED FINANCIAL DATA 20 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 21 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA 46 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE 47 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT 47 ITEM 11. EXECUTIVE COMPENSATION 48 ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT 48 ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS 48 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K 49 PART I ITEM 1. BUSINESS WorldCorp, Inc., a Delaware corporation ("WorldCorp" or the "Company"), was organized in March 1987 to serve as the holding company for World Airways, Inc., a Delaware corporation ("World Airways"), which was organized in March 1948 and is the predecessor to the Company. Currently, WorldCorp owns positions in companies that operate in two distinct business areas. WorldCorp's aviation services subsidiary, World Airways, is a global provider of long-range passenger and cargo air transportation outsourcing services to major international airlines under fixed rate contracts. World Airways also leads a contractor teaming arrangement that is one of the largest suppliers of commercial aircraft to the United States Air Force's Air Mobility Command ("U.S. Air Force" or "USAF"). World Airways was a wholly-owned subsidiary in 1993. In February 1994, pursuant to an October 1993 agreement, WorldCorp sold 24.9% of its ownership in World Airways to MHS Berhad ("MHS"), a Malaysian aviation company. Effective December 31, 1994, the Company increased its ownership in World Airways to 80.1% through the purchase of 5% of World Airways common stock held by MHS. In October 1995, World Airways completed an initial public offering. In September, 1997, World Airways purchased 3,227,000 shares of its common stock from WorldCorp. As a result, at December 31, 1997, WorldCorp owned approximately 46.3% of World Airways. Accordingly, beginning in September, 1997, WorldCorp reports its proportionate share of World Airways' financial results using the equity method of accounting. In January, 1998, MHS sold 773,000 shares of its World Airways common stock to World Airways. Effective January 23, 1998, WorldCorp and MHS own 51.2% and 16.8%, respectively, of the outstanding common stock of World Airways, with the balance publicly traded. WorldCorp also had an ownership interest in US Order, Inc. ("US Order"), a company which provided products and services for two markets: home banking and smart telephones. In August 1996, US Order and Colonial Data Technologies Corp. ("Colonial Data") entered into an Agreement and Plan of Merger pursuant to which US Order and Colonial Data would be merged (the "Mergers") with and into a new public company, InteliData Technologies Corporation ("InteliData"). Pursuant to the Mergers which were consummated on November 7, 1996, InteliData became the successor corporation to US Order. The Mergers were treated as a purchase of Colonial Data by US Order. Following the Mergers, WorldCorp reports its proportionate share of InteliData's financial results using the equity method of accounting. InteliData develops and markets products and services for the telecommunications and financial services industries through its telecommunications and electronic commerce business divisions. At December 31, 1997, WorldCorp owned 9,179,273 shares of InteliData, or an ownership interest of approximately 29.4% On April 20, 1998, WorldCorp consummated a transaction pursuant to which it acquired an 80% interest in Paper Acquisition Corp., a Delaware corporation ("Paper"). Paper was organized by Sun Capital Partners, Inc. ("Sun Capital") to acquire and operate specialty paper businesses. In December 1996, Paper acquired and consolidated two companies that produce a variety of coated papers and specialty inks which are sold to business forms manufacturers. For the 12 months ended December 31, 1997, Paper had approximately $48 million (unaudited) of sales. Pursuant to the transaction, (i) WorldCorp exchanged seven-year warrants to acquire 35% (after the exercise of such warrants and the WorldCorp Acquisition Corp. options described below) of the issued and outstanding capital stock of WorldCorp Acquisition Corp. a Delaware corporation ("WorldCorp Acquisition"), held by WorldCorp for certain of the shares of Paper held by the Paper shareholders (the warrants are exercisable after one-year, at an exercise price of 125% of the estimated fair market value of the WorldCorp Acquisition stock at April 20, 1998 and payable with a seven-year, full-recourse, interest only note)(ii) WorldCorp contributed all of its shares of World Airways and the Paper shares received above, to WorldCorp Acquisition Corp., in exchange for 80% of the issued and outstanding capital stock of WorldCorp Acquisition and (iii) the holders of Paper contributed their shares of capital stock of Paper in exchange for (A) 20% of the issued and outstanding capital stock of WorldCorp Acquisition, (B) the assumption of approximately $15 million of debt, net of cash and investments, of Paper, (C) $15 million of 8% interest only promissory notes of WorldCorp Acquisition due in April 2003, (D) $1 million of 8% promissory notes of WorldCorp Acquisition due in March 1999 and (E) an earn-out based on the earnings before interest, taxes, depreciation and amortization of Paper during the next five years. The earn-out is payable, including interest at 10%, in September 2002. WorldCorp has pledged all of its shares of common stock of both WorldCorp Acquisition and InteliData, and WorldCorp Acquisition has pledged all of its shares of common stock of both World Airways and Paper to the current Paper shareholders to collateralize the notes and the earn-out. WorldCorp and WorldCorp Acquisition have entered into a consulting agreement with Sun Capital, which through an affiliate owned approximately 85% of the issued and outstanding shares of Paper immediately prior to the transaction, pursuant to which Sun Capital will receive $500,000 per year for financial consulting. Sun Capital also received seven-year options to acquire approximately 20% and 10% (after the execise of such options and the warrants described above) of the issued and outstanding shares of common stock of WorldCorp and WorldCorp Acquisition, respectively, which options vest over five years. The exercise prices of these options is 125% of the fair market value of the underlying stock at April 20, 1998, and are payable with seven-year, full recourse, interest only notes. The WorldCorp Board of Directors unanimously approved the acquisition of Paper because, among other things, Paper will provide WorldCorp and WorldCorp Acquisition with a platform for WorldCorp and WorldCorp Acquisition to pursue their growth strategy and with additional operating cash flow. Although the acquisition of Paper will not resolve WorldCorp's liquidity issues, it is intended to build long-term value for WorldCorp's stockholders. The Company desires to take advantage of the "safe harbor" provisions in the Private Securities Litigation Reform Act of 1995 (the "Act"). Therefore, this report contains forward looking statements that are subject to risks and uncertainties, including, but not limited to, the impact of competitive products, product demand and market acceptance risks, reliance on key strategic alliances, fluctuations in operating results and other risks detailed from time to time in the Company's filings with the Securities and Exchange Commission. These risks could cause the Company's actual results for 1998 and beyond to differ materially from those expressed in any forward looking statements made by, or on behalf of, the Company. The principal executive offices of WorldCorp are located at Washington Dulles International Airport in The Hallmark Building, 13873 Park Center Road, Herndon, Virginia 20171. WorldCorp's telephone number is (703) 834-9200. WORLD AIRWAYS World Airways is a global provider of long-range passenger and cargo air transportation outsourcing services to major international airlines under fixed rate contracts. Airline operations account for 100% of its operating revenue and operating income. World Airways' passenger and freight operations employ 12 wide-body aircraft which are operated under contracts, a substantial portion of which are with Pacific Rim airlines. These contracts generally require World Airways to supply aircraft, crew, maintenance and insurance ("ACMI" or "wet lease"), while its customers are responsible for a large portion of the other operating costs, including fuel. World Airways' airline customers have determined that outsourcing a portion of their wide-body passenger and cargo requirements can be less expensive, and offers greater operational and financial flexibility, than purchasing new aircraft and additional spare parts required for such aircraft. World Airways also leads a contractor teaming arrangement that is one of the largest suppliers of commercial aircraft to the U.S. Air Force. In July 1996, World Airways restructured its business to focus on ACMI contract services. As such, World Airways ceased all scheduled passenger and scheduled charter services as of October 27, 1996, taking a one-time charge for estimated loss on disposal of $21.0 million as of June 30, 1996. World Airways' operating philosophy is to build on its existing ACMI relationships to achieve a strong platform for future growth. World Airways concentrates on ACMI contracts because such contracts shift yield, load factor and cost risks to the customer. The customer bears the risk of filling the aircraft with passengers or cargo and assumes a large portion of the operating expenses, including fuel. World Airways has elected to emphasize its ACMI business because World Airways perceives a number of opportunities created by a global economy, particularly growth in second and third world economies where the demand for airlift exceeds capacity. World Airways attempts to maximize profitability by combining its multi-year ACMI contracts with short term, higher-yielding ACMI agreements which meet the peak seasonal requirements of its customers. World Airways responds opportunistically to rapidly changing market conditions by maintaining a flexible fleet of aircraft that can be deployed in a variety of configurations. World Airways focuses its marketing efforts on countries where rapid economic development drives demand for its services. World Airways believes that its modern fleet of long-range medium- density wide-body MD-11 and DC10-30 aircraft are well suited to these less dense international routes and provide superior economics as compared to other popular aircraft such as the Boeing 747 which has greater capacity. World Airways substantially increases its potential customer base by being able to serve both passenger and cargo customers. World Airways flies passenger, cargo and passenger/cargo convertible aircraft that World Airways believes permit World Airways to target emerging opportunities. World Airways has been providing safe, reliable services for almost 50 years. World Airways has flown for the USAF since 1956, for Malaysian Airlines System Berhad ("Malaysian Airlines") since 1981, and for Garuda Indonesia ("Garuda") since 1973. Customers Over the years, World Airways has had relationships with a number of major international airlines and with the USAF (see "Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") - Customers"). World Airways' growth strategy is based, first and foremost, upon providing the highest level of service to these customers, thereby maintaining and expanding the amount of business being done through long-term contracts. The information regarding major customers and foreign revenue is contained in Note 19 "Major Customers" of the Company's "Notes to Consolidated Financial Statements" in Item 8. Information concerning the classification of products within the air transportation industry comprising 10% or more of World Airways' operating revenues from continuing operations is presented in the following table (in millions): Year Ended December 31, --------------------------------- 1997 1996 1995 ---- ---- ---- Flight Operations - Passenger $267.3 $257.6 $168.0 Flight Operations - Cargo 39.5 39.3 64.6 Competition and Seasonality See MD&A and Note 22 "Unaudited Quarterly Results" of the Company's "Notes to Consolidated Financial Statements" in Item 8. Aviation Fuel World Airways' source of aviation fuel is primarily from major oil companies, under annual delivery contracts, at often frequented commercial locations, and from United States military organizations at military bases. World Airways' current fuel purchasing policy consists of the purchase of fuel within seven days in advance of all flights based on current prices set by individual suppliers. More than one supplier is under contract at several locations. World Airways purchases no fuel under long-term contracts nor does it enter into futures or fuel swap contracts. The air transportation industry in general is affected by the price and availability of aviation fuel. Both the cost and availability of aviation fuel are subject to many economic and political factors and events occurring throughout the world and remain subject to the various unpredictable economic and market factors that affect the supply of all petroleum products. Fluctuations in the price of fuel have not had a significant impact on the World Airways' operations in recent years because, in general, World Airways' ACMI contracts with its customers limit its exposure to increases in fuel prices. However, a substantial increase in the price or the unavailability of aviation fuel could have a material adverse effect on the air transportation industry in general and the financial condition and results of operations of the World Airways. Regulatory Matters Since it was founded in 1948, World Airways has been authorized to engage in commercial air transportation by the Department of Transportation (the "DOT") or its predecessor agencies. World Airways is currently authorized to engage in the scheduled and charter air transportation of combination (persons, property and mail) and all-cargo services between all points in the U.S., its territories and possessions. It also holds worldwide charter authority for both combination and all-cargo operations. In addition, World Airways is authorized to conduct scheduled combination services to the foreign points listed in its DOT certificate. World Airways also holds certificates of authority to engage in scheduled all-cargo services to a limited number of foreign destinations. World Airways is subject to the jurisdiction of the FAA with respect to aircraft maintenance and operations, including flight operations, equipment, aircraft noise, ground facilities, dispatch, communications, training weather observation, flight time, crew qualifications, aircraft registration and other matters affecting air safety. The FAA requires each air carrier to obtain an operating certificate and operations specifications authorizing the carrier to operate to particular airports on approved international routes using specified equipment. These certificates and specifications are subject to amendment, suspension, revocation or termination by the FAA. In addition, all of World Airways' aircraft must have and maintain certificates of airworthiness issued or approved by the FAA. World Airways currently holds an FAA air carrier operating certificate and operations specifications under Part 121 of the Federal Aviation Regulations. The FAA has the authority to suspend temporarily or revoke permanently the authority of World Airways or its licensed personnel for failure to comply with regulations promulgated by the FAA and to assess civil penalties for such failures. Under the Airport Noise and Capacity Act of 1990 and related FAA regulations, World Airways' aircraft fleet must comply with certain Stage 3 noise restrictions by certain specified deadlines. All of World Airways' aircraft currently meet the Stage 3 noise reduction requirement, which is currently the most stringent FAA noise requirement. FAA regulations require compliance with the Traffic Alert and Collision Avoidance System ("TCAS"), approved airborne windshear warning system and aging aircraft regulations. Additional laws and regulations have been proposed from time to time which could significantly increase the cost of airline operations by imposing additional requirements or restrictions on operations. Laws and regulations have been considered from time to time that would prohibit or restrict the ownership and transfer of airline routes or slots. There is no assurance that laws and regulations currently enacted or enacted in the future will not adversely affect World Airways' ability to maintain its current level of operating results. Several aspects of airline operations are subject to regulation or oversight by Federal agencies other than the DOT or FAA. For instance, labor relations in the air transportation industry are generally regulated under the Railway Labor Act, which vests in the National Mediation Board certain regulatory powers with respect to disputes between airlines and labor unions arising under collective bargaining agreements. In addition, World Airways is subject to the jurisdiction of other governmental entities, including (i) the FCC regarding its use of radio facilities pursuant to the Federal Communications Act of 1934, as amended, (ii) the Commerce Department, the Customs Service, the Immigration and Naturalization Service, and the Animal and Plant Health Inspection Service of the Department of Agriculture regarding World Airways' international operations, (iii) the Environmental Protection Agency (the "EPA") regarding compliance with standards for aircraft exhaust emissions and (iv) the Department of Justice regarding certain merger and acquisition transactions. The EPA regulates operations, including air carrier operations, which affect the quality of air in the U.S. World Airways has made all necessary modifications to its operating fleet to meet fuel-venting requirements and smoke emissions standards issued by the EPA. World Airways' international operations are generally governed by the network of bilateral civil air transport agreements providing for the exchange of traffic rights between governments which then select and designate air carriers authorized to exercise such rights. In the absence of a bilateral agreement, such international air services are governed by principles of comity and reciprocity. Bilateral provisions pertaining to the wet lease services in which World Airways is primarily engaged vary considerably depending on the particular country. Most bilateral agreements into which the U.S. has entered permit either country to terminate the agreement with one year's notification to the other. In the event a bilateral agreement is terminated, international air service between the affected countries is governed by the principles of comity and reciprocity. Certain airports served by World Airways are subject to slot allocations administered by the governments of the countries in which such airports are located or by coordinating committees comprising airline representatives. A "slot" is an authorization to take off or land at the designated airport within a specified time window. In the past, World Airways has generally been successful in obtaining the slots it needs in order to conduct planned operations. There can be no assurance, however, that it will be able to do so in the future because, among other factors, government policies regulating the distribution of slots, both in the U.S., and in foreign countries, are subject to change. Pursuant to federal law, no more than 25% of the voting interest in World Airways may be owned or controlled by foreign citizens. In addition, under existing precedent and policy, actual control must reside in U.S. citizens. As a matter of regulatory policy, the DOT has stated that it would not permit aggregate equity ownership of a domestic air carrier by foreign citizens in an amount in excess of 49%. World Airways fully complies as of the date hereof with these U.S. citizen ownership requirements. Due to its participation in CRAF, World Airways is subject to inspections approximately every two years by the military as a condition of retaining its eligibility to perform military charter flights. The last such inspection was undertaken in 1996 and the next is anticipated to occur in 1998. As a result of such inspections, World Airways has been required to implement measures, such as the establishment of a crew resource management course, beyond those required by the DOT, FAA and other government agencies. The USAF may terminate its contract with World Airways if World Airways fails to pass such inspection or otherwise fails to maintain satisfactory performance levels, if World Airways loses its airworthiness certificate or if the aircraft pledged to the contracts lose their U.S. registry or are leased to unapproved carriers. World Airways believes it is in compliance in all material respects with all requirements necessary to maintain in good standing its operating authority granted by the DOT and its air carrier operating certificate issued by the FAA. A modification, suspension or revocation of any of World Airways' DOT or FAA authorizations or certificates could have a material adverse effect upon World Airways. World Airways also is subject to state and local laws and regulations at locations where it operates and the regulations of various local authorities which operate the airports it serves. Certain airport operations have adopted local regulations which, among other things, impose curfews and noise abatement regulations. While World Airways believes it is currently in compliance in all material respects with all appropriate standards and has all required licenses and authorities, any material non-compliance by World Airways therewith or the revocation or suspension of licenses or authorities could have a material adverse effect on World Airways. Employees As of March 2, 1998, World Airways had 801 full time employees classified as follows: Classification Number of Full-Time Employees - -------------- ----------------------------- Management 8 Administrative and Operations 298 Cockpit Crew (including pilots) 298 Flight Attendants (active) 197 --- Total Employees 801 === World Airways' cockpit crew members, who are represented by the International Brotherhood of Teamsters (the "Teamsters"), are subject to a four-year collective bargaining agreement that will become amendable in July 1998. Approximately 37% of World Airways' employees are covered under the collective bargaining agreement. World Airways expects to begin negotiations in April 1998 and cannot predict the outcome of the negotiations or their possible impact on World Airways' financial condition and results of operations. World Airways' flight attendants, who are also represented by the Teamsters, are subject to a four-year collective bargaining agreement that will expire in August 2000. World Airways' flight attendants argued the "scope clause" of the collective bargaining agreement had been violated by World Airways and challenged the use of foreign flight attendant crews on World Airways' flights for Malaysian Airlines and Garuda Indonesia which has historically been World Airways' operating procedure. World Airways is contractually obligated to permit its Southeast Asian customers to deploy their own flight attendants. While the arbitrator in this matter denied in 1997 the union's request for back pay to affected flight attendants for flying relating to the 1994 Hadj, the arbitrator concluded that World Airways' contract with its flight attendants requires World Airways to first actively seek profitable business opportunities that require using World Airways' flight attendants, before World Airways may accept wet lease business opportunities that use the flight attendants of World Airways' customers. Subsequently, in 1997, the flight attendants challenged and filed "scope clause" grievances with respect to four separate wet-lease contracts. World Airways and the Teamsters are presently in discussions regarding these grievances. At this time, however, World Airways can give no assurance that these discussions will be successful and the grievances will not be submitted to formal arbitration. World Airways can provide no assurance as to how the resolution of this matter will affect World Airways' financial condition and results of operations. World Airways' aircraft dispatchers are represented by the Transport Workers Union (the "TWU"). This contract became amendable on June 30, 1993. In May 1995, the parties reached agreement with respect to a new four-year contract. This contract was ratified on February 7, 1996. Fewer than 12 World Airways employees are covered by this collective bargaining agreement. World Airways is unable to predict whether any of its employees not currently represented by a labor union, such as its maintenance personnel, will elect to be represented by a labor union or collective bargaining unit. The election by such employees for representation in such an organization could result in employee compensation and working condition demands that could have a material adverse effect on the financial results of World Airways. InteliData InteliData was incorporated on August 23, 1996 under the Delaware General Corporation Law in order to effect the Mergers of US Order and Colonial Data. The Mergers were announced on August 5, 1996, when US Order and Colonial Data entered into an Agreement and Plan of Merger ("Merger Agreement"). On November 7, 1996, the Mergers were consummated with each share of outstanding US Order and Colonial Data common stock being exchanged for one share of InteliData common stock. Accounting for the Mergers was treated as a purchase of Colonial Data by US Order. Accordingly, the financial statements of InteliData included herein reflect the results of US Order through November 7, 1996 and the consolidated results of US Order and Colonial Data thereafter. Effective September 30, 1996, US Order acquired the business of Braun, Simmons & Co., an Ohio corporation ("Braun Simmons"), for approximately $7 million consisting of cash and US Order common stock (and including US Order transaction costs) pursuant to the merger of Braun Simmons into US Order (the "Braun Simmons Acquisition"). Braun Simmons was an information engineering firm specializing in the development of home banking and electronic commerce solutions for financial institutions. The acquisition expanded InteliData's product line for both large and small financial institutions. The business of InteliData consists of the businesses previously conducted by US Order, Colonial Data and Colonial Data's subsidiaries. InteliData develops and markets products and services for the telecommunications, retail and financial services industries through its two primary business divisions: telecommunications and electronic commerce. The telecommunications division designs, develops and markets telecommunications products that support intelligent network services being developed and implemented by the regional Bell operating companies ("RBOCs") and other telephone companies ("telcos"). InteliData has concentrated its product development and marketing efforts on products that support Caller ID and other emerging intelligent network services, including smart telephones which provide consumers call management features and the ability to access numerous network services and interactive applications via telephone. InteliData currently offers a line of Caller ID adjunct units, smart telephones, small business telecommunications systems and high-end telecommunications equipment. InteliData also repairs and refurbishes telecommunications products for commercial customers and provides other services that support the development and implementation of intelligent network services. The electronic commerce division develops and markets software products and implementation services to assist financial institutions in their home banking and electronic bill payment initiatives. The products are designed to assist consumers in accessing and transacting business with their banks and credit unions electronically, and to assist financial institutions in connecting to and transacting business with third parties, including data processors and billers. The services focus on consulting and maintenance agreements that support InteliData's products. In 1994, InteliData sold its bill payment operations and technology (the "Visa Bill-Pay System") to Visa for cash and the right to future royalty payments which are based on the number of customers utilizing the Visa Bill-Pay System. In August 1997, Integrion Financial Network ("Integrion") acquired Visa InterActive, and certain rights in the Visa Bill-Pay System, from Visa. In October 1997, InteliData surrendered the right to certain future royalty payments in exchange for $5,000,000 in cash from Visa. The cash payment is recorded as deferred revenue and is being recognized into electronic commerce revenues over a two year period. During the fourth quarter of 1997, InteliData announced its intention to sell the interactive services division which was established to provide interactive applications for use on smart telephones and other small screen devices, such as alpha-numeric pagers, Personal Communication Systems ("PCS") devices and personal digital assistants ("PDAs"). The discontinued operations of the interactive services division are not considered to be material to the overall financial statements. InteliData's principal executive offices are located at 13100 Worldgate Drive, Suite 600, Herndon, Virginia 20170 and its telephone number is (703) 834-8500. Industry Background InteliData maintains operations in two primary markets: telecommunications and electronic commerce. Telecommunications The telecommunications division designs, develops and markets telecommunications products that support intelligent network services being developed and implemented by RBOCs and other telcos. Deregulation and technological advances have intensified competition among existing operators of telecommunication networks and encouraged the entrance of new service providers. In the United States, competition among RBOCs, other telcos and long distance carriers and new service providers that have entered the local and long distance markets, has increased and may increase further as a result of the Telecommunications Act of 1996 (the "Telecommunications Act") or industry consolidation. RBOCs and other telcos are responding to increasing competition by, among other things, introducing value-added, intelligent network services. In order to deploy intelligent network services, the telcos have been upgrading their telecommunications networks to support a set of standards, known as the Intelligent Networks ("IN"). IN supports open, distributed switching and processing capabilities and allows the telcos to create, modify and deploy new services quickly and economically. In addition, Bell Communications Research, Inc. has developed the Analog Display Services Interface ("ADSI"), a standard protocol for the simultaneous transmission of data and voice information between an information source and a subscriber's telephone or other communications device such as a smart telephone. One of the first intelligent network service offerings by RBOCs and telcos was Caller ID, a service that provides information about the incoming call, including the number and name of the caller and the time and date of the call, enabling that information to be displayed on a screen located on the telephone (an integrated telephone) or on a device located near the telephone, in the case of an adjunct unit. InteliData estimates that the current penetration rate of Caller ID service is approximately 25% of the total subscribers in those areas in the United States that have Caller ID capabilities. By deploying the ADSI protocol in the telecommunications network, RBOCs and other telcos will be able to offer additional intelligent network services and third-party interactive applications. ADSI-based services will include Caller ID on Call Waiting together with call disposition. By subscribing to Caller ID on Call Waiting with Disposition, a subscriber who receives a Call Waiting signal can look at the Caller ID display screen and see the name and number of the calling party before deciding whether to answer the call, send a prerecorded message telling the calling party to wait, forward the call to voice mail, conference both calls together or drop the line. Additional services which can be supported through ADSI include on-line directory assistance, e-mail, paging, news, weather, stock quotes and other information. The regulatory environment relating to the telecommunications industry is undergoing rapid and significant changes. The Telecommunications Act has effected basic changes in the telecommunications regulatory scheme. The intention of the Telecommunications Act is to enhance competition in all telecommunications markets and bring new packages, lower prices and increased innovation to telephone customers in the United States. The Federal Communications Commission ("FCC") issued its first major order under the Telecommunications Act in August, 1996 which constitutes the FCC's initial measures to implement sections of the Telecommunications Act relating to interconnection between carriers and the provision of access to unbundled services. However, portions of this order, most significantly its pricing provisions, have been successfully challenged in the U.S. Court of Appeals for the Eighth Circuit. The U.S. Supreme Court has agreed to review the Eighth Circuit's decision overturning those provisions. In December 1996, the FCC issued a Notice of Proposed Rulemaking which suggests rules concerning the implementation of the Telecommunications Act provisions relating to RBOC manufacture of telecommunications and customer premises equipment. Although the FCC has not yet implemented the regulations relating to those provisions, the proposed regulations would permit RBOCs to manufacture products that support Caller ID and other emerging intelligent network services subject to certain conditions. The U.S. District Court for the Northern District of Texas has declared the Telecommunications Act's manufacturing provisions, among others, unconstitutional. This decision has been stayed pending review by the U.S. Court of Appeals for the Fifth Circuit. InteliData is unable to predict what effect, if any, the Telecommunications Act and the emerging regulatory scheme under the Telecommunications Act will have on Caller ID service or InteliData's business generally. Electronic Commerce The electronic commerce division provides software products and implementation services to financial institutions whose processes and systems are subject to regulatory approvals. Electronic commerce is a developing marketplace. Financial institutions are expanding their electronic home banking services to permit customers not only to review historical account information, but also to engage in transactions such as paying bills and transferring funds. InteliData's future growth and profitability will depend, in part, upon consumer acceptance of electronic home banking. Products and Services InteliData's business strategy is to develop products and services to meet the needs of its customers in the telecommunications and electronic commerce markets. InteliData develops products and services for the RBOCs and other telcos, financial institutions and their customers. InteliData strives to develop products with broad appeal that are easy-to-use, practical, inexpensive and built around common industry standards. InteliData believes its electronic commerce products position InteliData to offer support services which are expected to generate recurring monthly fee revenue. Telecommunications Since introducing the first commercially available Caller ID unit in 1987, InteliData has developed and marketed Caller ID products with increased functionality to meet the needs of its RBOC and other telco customers. A substantial majority of InteliData's revenues are derived from the sale of its Caller ID products. The following represent InteliData's telecommunications products and services: Entry Level Caller ID Adjunct Devices. InteliData provides low-priced, entry level Caller ID devices primarily to support RBOC marketing and promotional campaigns in which a telco may give away or subsidize the purchase of a Caller ID adjunct device when a consumer subscribes for the service. InteliData believes that RBOCs utilize lower-priced products to reduce or eliminate the initial consumer expenditure required to obtain the service and, as a result, may subsequently achieve higher penetration rates for Caller ID in selected markets. InteliData's entry level Caller ID adjunct devices have suggested retail prices of $19.99 to $29.99. Full-Featured Caller ID Adjunct Devices. InteliData's full-featured products display all transmitted information before the incoming telephone call is answered and store this information in memory. Among the features available on InteliData's full-featured products are memory capacity for up to 99 calls, a "blocked call"/"new call" light, a patented "Block the Blocker" feature, a bilingual display and a "message waiting alert" light that indicates to a network voice mail subscriber that a new voice mail message has been received. "Block the Blocker" is a feature that detects when call block is used by a caller, delivers a message to that caller that the Caller ID subscriber does not accept blocked calls and disconnects the call. InteliData's full-featured Caller ID adjunct devices have suggested retail prices of $29.99 to $59.99. Caller ID on Call Waiting. Caller ID on Call Waiting allows a subscriber to combine both Caller ID and Call Waiting network services, to view the directory name and telephone number of an incoming call as the Call Waiting signal is delivered. InteliData's Caller ID on Call Waiting adjunct device also allows a consumer to store approximately 85 names and numbers in memory. The Caller ID on Call Waiting adjunct device has a suggested retail price of $69.99. Call Manager. The Call Manager is a sophisticated Caller ID device that works with both single-data and multi-data message services. The Call Manager stores up to 75 of the most recent names and numbers called. The product incorporates a wide variety of telco provided network services, including Caller ID on Call Waiting with Disposition, into a compact adjunct. The Call Manager has a suggested retail price of $89.99. Smart Telephones. InteliData offers a line of smart telephones with integrated Caller ID, Caller ID on Call Waiting and preprogrammed keys to support intelligent network services. InteliData's ADSI-Compatible smart telephone was designed and developed by InteliData and is being marketed under the Intelifone brand name. The smart telephone incorporates a graphics display screen, magnetic card reader, alpha-numeric keypad, V.22 modem and a processor. It also supports Caller ID with Disposition, the integration of Caller ID on Call Waiting and a visual message waiting indicator. InteliData's smart telephones have suggested retail prices of $99.99 to $199.99. Small Business Telecommunications Systems. InteliData, through one of its subsidiaries, distributes small business telecommunications systems and multi- line telephones. The small business telecommunications systems include analog and digital key systems that allow up to 128 individual telephone lines to be serviced from the same operating system. These small business systems are sold through independent dealers that install and service the products. The IPS telephone systems and multi-line telephones are also sold through retail stores. InteliData markets its small business telecommunications systems to small businesses and small office/home office ("SOHO") consumers who are looking for an easy-to-install communications system at a reasonable price. Repair and Refurbishment. InteliData has provided telephone repair and refurbishment services to telcos and certain telephone equipment manufacturers for a wide variety of telecommunications products, including corded and cordless telephones, key telephone business systems, cellular telephones and leased telephone products. During the year ended December 31, 1997, InteliData's service customer base included Nitsuko America Corp., TIE/communications, Inc. ("TIE") and Motorola, Inc. Electronic Commerce InteliData's strategy in the electronic commerce market is to support financial institutions by providing products and services that help them deploy home banking to their customers. In addition, during the first half of 1997, InteliData supported Visa InterActive and Visa member banks with products and services which facilitate bill payment and bill presentment. InteliData's products and services are designed to provide financial institutions the capability to process banking transactions from multiple channels including personal computers, internet or telephone. The following represent InteliData's electronic commerce products and services: InterposeTM Financial Engine. The Interpose Financial Engine is the heart of InteliData's home banking software system. It runs on the financial institution's host computer system, providing real-time connectivity to remote delivery channels. Along with this critical host connection, Interpose provides robust customer profiling and control over system security. Its Advanced Financial Message Set gives banks the functionality to offer a complete range of online financial services. InterposeTM OFX Server. The Interpose OFX Server allows a financial institution to take advantage of the Open Financial Exchange ("OFX") standard to directly support customers who use Intuit Quicken(R), Microsoft Money(R), Home Financial Network's Home ATM(TM), and other OFX compliant client software. It supports synchronized information across all delivery channels, including personal computers, the internet and telephones. InterposeTM Bill Payment Warehouse. The Interpose Bill Payment Warehouse provides a software solution to financial institutions that automates bill payment processing while giving the financial institution the benefit of tracking payment activity and integrating delivery channels. MoneyClipTM. The MoneyClip smart card system allows financial institutions to offer a secure banking system based on smart cards with digital certificates. MoneyClip can turn almost any personal computer into a smart card reader, providing home banking security and building an infrastructure for stored value and internet commerce applications. The smart card contains a digital certificate that permits access to bank account information and transactions, letting users bank from any internet connected personal computer with a 3.5-inch disk drive. Product Support Services. InteliData offers its clients consulting services to assist in implementation, training and customization on a time and materials basis and provides maintenance services and software upgrades pursuant to agreements which are typically renewable on an annual basis. Customer Support Services. InteliData offered bank-branded turnkey customer service to financial institutions in support of its consumer access products. InteliData's customer service operation was open seven days a week, 18 hours a day. If a bank chose InteliData to provide customer service, InteliData typically received a start-up fee from that bank and a per minute fee per customer. InteliData discontinued its customer support services in the second quarter of 1997. Marketing and Distribution InteliData sells its products and services to telephone operating companies, retailers and financial institutions in the United States. Revenues from Bell Atlantic, Worldwide Telecom and the US West lease base represented 19%, 19% and 14% of total revenues for the year ended December 31, 1997, respectively. Telecommunications. InteliData markets its telecommunications products and services through 22 employees in its direct sales force and marketing department, and currently uses 14 independent sales representative firms. InteliData's distribution strategy is to make its products available to potential end users through multiple distribution channels including: direct fulfillment arrangements, direct marketing, retailers and others as described below. Direct Fulfillment Arrangements. InteliData sells telecommunications products to RBOC subscribers and other telco subscribers through direct fulfillment arrangements with Ameritech Corporation ("Ameritech"), Bell Atlantic Corporation ("Bell Atlantic"), BellSouth Corporation ("BellSouth") and SBC Communications Inc. ("SBC"). In most instances, the telco representatives market both Caller ID service and InteliData's equipment to subscribers and transmit equipment orders to InteliData electronically on a daily basis. InteliData then ships its equipment directly to the subscribers and bills the telco which, in turn, bills its subscribers directly or through a third party. As part of promotional campaigns, some RBOCs may elect to purchase Caller ID units from InteliData and distribute them to their subscribers free of charge. InteliData provides an 800 number for service and support to help the subscriber understand how to utilize the Caller ID service and equipment. InteliData continually seeks to strengthen its current telco marketing alliances and to develop new alliances. InteliData believes that marketing of Caller ID service and equipment is more successful when the subscriber can subscribe to Caller ID service and purchase or lease Caller ID equipment from a single source, especially when payment for equipment can be made either on an installment basis or by monthly lease payments through the subscriber's telephone bill. InteliData believes that subscriber satisfaction with Caller ID service is enhanced when the subscriber receives Caller ID equipment promptly after ordering the service and is provided an 800 number for service and support. Direct Marketing on Behalf of Telcos. During 1997, InteliData was a party to a joint venture agreement with the direct marketing firm of Blau Marketing Technologies, Inc. The joint venture operated through a jointly owned corporation, Worldwide Telecom Partners, Inc. ("Worldwide Telecom"), which was 50% owned by each of the joint venturers. Worldwide Telecom provided direct marketing services to Ameritech, Bell Atlantic and SBC under several separate programs and has completed numerous programs for Caller ID, Call Answering and Call Waiting services. InteliData supplied Caller ID units and product management services for Worldwide Telecom. The joint venture agreement was terminated by InteliData in the third quarter of 1997. Beginning in 1998, InteliData has contracted with telcos directly to market services on behalf of the telcos. InteliData expects to aggressively compete in this marketplace. Retail and Other Customer Sales. InteliData sells Caller ID units, smart telephones and small business telephone systems to national, regional and local retailers and private label customers. A substantial portion of InteliData's retail sales are made through manufacturers' representatives or distributors with the support of InteliData's sales personnel. InteliData's retail customers include Sears, Roebuck & Co., Staples, Inc. and OfficeMax, Inc. among others. In addition, InteliData sells its small business telephone systems and multi-line telephones to small business dealers and distributors. Electronic Commerce InteliData concentrates its marketing efforts on direct sales to financial institutions. Currently, InteliData is marketing to the top 200 banks in the United States and targeting financial institutions that have a large percentage of customers interested in home and remote banking. InteliData is developing products and services to assist financial institutions who want to provide their customers with the ability to access certain information from their bank accounts and complete transactions with the bank concerning bill payments, loan payments, online transfers and other transactions from remote locations via touch tone telephones, personal computers and screen based telephones. Competition Telecommunications The market for InteliData's products and services is highly competitive and subject to increased competition resulting from rapid technological change as well as increased competition resulting from changes in the telecommunications regulatory environment, telecommunications industry consolidation and the emergence of new market entrants. At present, InteliData's principal competitors in the market for Caller ID products are CIDCO Incorporated ("CIDCO"), Lucent Technologies, Inc. ("Lucent") and Northern Telecom, Ltd. ("Northern Telecom"). InteliData's Caller ID products also compete with Caller ID adjuncts and telephones offered by Panasonic, Sony Corp. ("Sony"), Thomson Consumer Electronics, Inc. ("Thomson"), TT Systems Corporation ("TT Systems"), US Electronics, Inc. ("US Electronics") and other companies. InteliData expects competition to increase in the future from existing and new competitors, possibly including telcos or other current customers, from network switch-based services and from the increased application of cellular technology. InteliData's primary current and potential competitors in the market for products that support intelligent network services have substantially greater financial, marketing and technical resources than InteliData. Increased competition could materially and adversely affect InteliData's results of operations through, among other things, price reductions and loss of market share. InteliData competes with a large number of competitors for its repair services and other services supporting the development and implementation of intelligent network services. Several of InteliData's competitors in the market for such services have substantially greater financial, marketing and technological resources than InteliData. There can be no assurance that InteliData will be able to continue to compete successfully against its existing competitors or that it will be able to compete successfully against new competitors. InteliData believes that the principal competitive factors in the markets for its telecommunications products and services are knowledge of the requirements of the various RBOCs and other telcos, product reliability, product design, the quality of repair and support services, customer service and support, and price relative to performance. InteliData competes in the market for its telecommunications products and services principally on the basis of its relationships with telcos, product design and reliability, low product pricing and flexibility of marketing alternatives, including leasing. Electronic Commerce InteliData's electronic commerce products and services face competition from several types of competitors. Some banks have elected to develop internally their own home banking solutions instead of purchasing products and services from the Company or third parties. Banks may also contract with service bureaus, such as Checkfree Corp., Security First Network Bank or Online Resources, Inc., to obtain electronic commerce services. Finally, a number of other software companies, including Edify Corp., Corillian Corporation and Destiny Software Corporation, offer products and services that compete with those of InteliData. InteliData expects that competition in all of these areas will increase in the near future. InteliData believes that a principal competitive factor in its markets is the ability to offer an integrated system of various electronic commerce products and services. Competition will be based upon price, performance, customer service and the effectiveness of marketing and sales efforts. InteliData competes in its various markets on the basis of its relationships with strategic partners, by developing many of the products required for complete solutions, by leveraging market experience, and by building reliable products and offering those products at reasonable prices. Product Development InteliData operates in industries that are rapidly growing and changing. In efforts to improve InteliData's position with respect to its competition, InteliData has increased its product development efforts and has focused management efforts in the area of product development. In 1997, 1996 and 1995, InteliData's research and development expenditures, exclusive of nonrecurring in-process research and development expenses were $9,691,000, $2,649,000 and $1,067,000, respectively. At December 31, 1997, 43 employees were engaged in product development including 14 in the telecommunications division and 29 in the electronic commerce division. Telecommunications InteliData's product development efforts are focused on new products that support intelligent network services, product enhancements, international standards compliance and the continued improvement of hardware components to reduce manufacturing costs. InteliData's product development group is experienced in engineering products for high-volume assembly, stressing low-cost manufacturing design while maintaining quality, consistency and reliability. InteliData's products utilize proprietary electrical, mechanical and software design. Standard Telecommunications Ltd. ("STL") of Hong Kong, an affiliate of InteliData's principal manufacturer, provides additional design, engineering and product development support services to InteliData from time to time on a subcontract basis. InteliData also utilizes the engineering resources of some of its other manufacturers. Electronic Commerce The electronic commerce division's product development efforts are focused on software and systems for electronic banking. In particular, InteliData applies its research and development expenditures to data transaction processing and messaging software. The electronic commerce industry is characterized by rapid change. To keep pace with this change, InteliData maintains an aggressive program of new product development and dedicates considerable resources to research and development to further enhance its existing products and to create new products and technologies. InteliData's ability to attract and retain highly skilled research and development personnel is important to InteliData's continued success. Manufacturing InteliData's primary equipment manufacturer in the past has been STL and certain of its affiliates, which have ISO 9000 series certified facilities located in the People's Republic of China, for the manufacture of its Caller ID units, smart telephones and other products. In addition, InteliData has established relationships with other ISO 9000 series certified Asian manufacturers for its smart telephones and small business telecommunications products. The facilities of InteliData's suppliers are supplemented, in part, by InteliData's own limited manufacturing facilities in Connecticut. The availability or cost of InteliData's products may be affected by political, economic or labor conditions in the countries where those products are manufactured, including the 1997 return of Hong Kong to China, by fluctuations in currency exchange rates and by other factors. In addition, a change in the tariff structure or other trade policies of the United States could adversely affect InteliData's foreign manufacturing strategies. InteliData does not have any production contracts with its assembly contractors. InteliData's principal manufacturer performs comprehensive inspection and statistical process control testing, utilizing InteliData's internally designed automated testing equipment. To date, InteliData has not experienced significant returns of defective products. In the United States, InteliData's manufacturing operations are limited to the testing, quality control and shipping of finished products and the purchase and inventory management of two key components of InteliData's products. The key components used in InteliData's products are currently being purchased from two sources, except for its application specific integrated circuit ("ASIC") chips, which are purchased from a single source. Although InteliData believes it could develop other sources for each of the components for its products, the process could take several months, and the inability or refusal of any such source to continue to supply components could have a material adverse effect on InteliData pending the development of an alternative source. Government Regulation Telecommunications The regulatory environment relating to the telecommunications industry is undergoing rapid and significant changes. The Telecommunications Act has effected basic changes in the telecommunications regulatory scheme. The intention of the Telecommunications Act is to enhance competition in all telecommunications markets and bring new packages, lower prices and increased innovation to telephone customers in the United States. The FCC issued its first major order under the Telecommunications Act in August 1996 which constitutes the FCC's initial measures to implement certain sections of the Telecommunications Act relating to interconnection between carriers and the provision of access to unbundled services. However, portions of this order, most significantly its pricing provisions, have been successfully challenged in the U.S. Court of Appeals for the Eighth Circuit. The U.S. Supreme Court has agreed to review the Eighth Circuit's decision overturning those provisions. In December 1996, the FCC issued a Notice of Proposed Rulemaking which suggests rules concerning the implementation of the Telecommunications Act provisions relating to RBOC manufacture of telecommunications and customer premises equipment. Although the FCC has not yet implemented the regulations relating to those provisions, the proposed regulations would permit RBOCs to manufacture products that support Caller ID and other intelligent network services subject to certain conditions. The U.S. District Court for the Northern District of Texas has declared the Telecommunications Act's manufacturing provisions, among others, unconstitutional. The decision has been stayed pending review by the U.S. Court of Appeals for the Fifth Circuit. InteliData is unable to predict what effect, if any, the Telecommunications Act and the emerging regulatory scheme under the Telecommunications Act will have on Caller ID service or InteliData's business generally. In the United States, Caller ID and other intelligent network services offered by telcos are subject to federal and state regulation. Caller ID is currently available in all 50 states and the District of Columbia. However, during the past several years, protests by special interest groups and regulatory concerns regarding the privacy aspects of the service have been effective in both slowing down the regulatory approval process and, in most states, requiring free per-call or per-line call blocking to be offered by the telcos, thereby allowing a caller to prevent the display of his or her name and number. A series of FCC orders require all U.S. telephone service providers with signaling system 7 ("SS7") switching architecture to transmit to each other without charge Caller ID number information on interstate calls within the United States (except for public pay phones, hotel and motel lines, and party lines). FCC orders also require that by March 28, 1998, telcos that offer Caller ID service must provide to their telephone subscribers without charge per-call blocking and unblocking mechanisms to block and unblock the transmission of their Caller ID information on interstate calls and must inform subscribers that their telephone numbers may be identified to a called party and how to use these blocking and unblocking capabilities. Although the initial FCC order setting forth these requirements was implemented December 1, 1995, several factors may delay, prevent or substantially limit the implementation or market acceptance of Caller ID. The availability of Caller ID service in a particular area requires end-to-end interconnection of SS7 networks between telcos and other carriers. Further, the FCC Order requires telcos to offer free per-call blocking for interstate calls to all customers to protect privacy interests and permits state public utility commissions to authorize per-line blocking for interstate calls. Such blocking, if widely adopted, could limit the usefulness and marketability of the Caller ID service. The California Public Utilities Commission and AT&T Corp. ("AT&T") filed petitions for review of the FCC Order in federal court challenging portions of the FCC Order. Although the FCC Order withstood that particular challenge, other parties have also objected to, sought delays in the implementation of or sought clarification of the FCC Order. In addition, in the future, Caller ID service may be subject to additional state and federal legislation, regulation and court challenges. InteliData is unable to predict what effect, if any, further legislation, regulation, court challenges or other objections may have on the FCC Order or Caller ID service. InteliData's smart telephone products are subject to regulation by the FCC. Among other requirements, InteliData's smart telephones must comply with Parts 15 and 68 of the FCC's regulations. Electronic Commerce The banking market which InteliData has targeted for marketing is highly regulated. The banking industry, although it has recently undergone significant deregulation, remains quite regulated at both the federal and state levels. Interpretation, implementation or revision of banking and telecommunications regulations can accelerate or hinder the ultimate success of InteliData and its products. Patents, Proprietary Rights and Licenses InteliData holds limited patent or registered intellectual property rights with respect to its products. InteliData has been issued a patent for its "Block the Blocker" feature and certain aspects of its Caller ID on Call Waiting product. However, there can be no assurance that the patent will afford effective protection of InteliData's technology. InteliData also holds or has filed for patents on certain new features developed by InteliData for use in the ADSI smart telephone and certain of its transaction processing technology, but there can be no assurances that such patents will have any commercial value. InteliData additionally relies on trade secret laws to establish and maintain its proprietary rights to its products. Although InteliData has obtained confidentiality agreements from its key executives and engineers in its product development group, there can be no assurance that third parties will not independently develop the same or similar alternative technology, obtain unauthorized access to InteliData's proprietary technology or misuse the technology to which InteliData has granted access. InteliData has rights to practice the inventions under certain of Lucent's Caller ID patents. These patents are also licensed to others, including InteliData's competitors. Lucent receives royalties from sales and leases of InteliData's Caller ID products other than to Lucent. The Lucent license agreement has no expiration date but is terminable by Lucent for breach on two months' written notice unless within such time all specified breaches have been remedied. If the Lucent license were terminated and InteliData were unable to negotiate a new patent license agreement with Lucent, InteliData would no longer be authorized to manufacture or sell Caller ID products in the United States other than to the RBOCs and to Lucent. Additionally, under the agreement, InteliData granted Lucent a non-exclusive, royalty-free license to all patents on inventions which are improvements or modifications based upon the technology licensed from Lucent. InteliData does not believe that its products and services infringe on the rights of third parties. From time to time, third parties assert infringement claims against InteliData. There can be no assurance that any such assertion will not result in costly litigation or require InteliData to cease using, or obtain a license to use, intellectual property rights of such parties. Employees At December 31, 1997, InteliData had approximately 280 employees, of whom 265 were full-time. InteliData has no collective bargaining agreements with its employees and believes that its relationship with its employees is good. ITEM 2. PROPERTIES Flight Equipment At December 31, 1997, World Airways' aggregate operating fleet consisted of 12 leased aircraft as follows (see Note 13 "Long-Term Obligations" of the Company's "Notes to Consolidated Financial Statements" in Item 8): Capacity ------------------------------------ Aircraft(a) Passenger(seats)(b) Cargo (Tons) Total(c) - ----------- ------------------- ------------ -------- McDonnell Douglas MD-11 409 -- 3 McDonnell Douglas MD-11F -- 95 1 McDonnell Douglas MD-11CF 410 90 2 McDonnell Douglas MD-11ER 409 -- 2 McDonnell Douglas DC10-30 350 -- 3 McDonnell Douglas DC10-30CF 380 65 1 - Total 12 == Notes (a) "F" aircraft are freighters, "CF" are convertible freighters and may operate in either passenger or freight configurations. "ER" aircraft maintain extended-range capabilities. Aircraft with no letter designation are passenger-only aircraft. (b) Based on standard operating configurations. Other configurations are occasionally used. (c) Lease terms expire between 1998 and 2020 (assuming exercise of all lease extensions). Ground Facilities WorldCorp and World Airways lease office space located near Washington Dulles International Airport which houses their corporate headquarters and substantially all of their administrative employees. In addition, World Airways leases additional office and warehouse space in Wilmington, Delaware; Philadelphia, Pennsylvania; New York, New York; Los Angeles, California; Kuala Lumpur, Malaysia; Yakota, Japan; and Frankfurt, Germany. Additional small offices and maintenance material storage space are leased at often frequented airports to provide administrative and maintenance support for commercial and military contracts. InteliData is headquartered in Herndon, Virginia, where it leases 30,000 square feet of office space from an unaffiliated party. The lease expires in August 1999. InteliData also leases other, less significant sales and product development facilities. Additionally, InteliData owns a building located in New Milford, Connecticut which consists of approximately 63,000 square feet. Certain environmental contamination occurred in the part of the facility formerly occupied by another tenant and the Connecticut Department of Environmental Protection performed a clean-up and removed such contamination. InteliData does not believe the foregoing will have a materially adverse effect on InteliData. InteliData believes that its facilities are suitable and adequate for the current and foreseeable future business of InteliData, however, InteliData will continue to assess its warehousing and office space needs. ITEM 3. LEGAL PROCEEDINGS For a description of the Company's current legal proceedings, see Note 21, "Commitments and Contingencies" of the Company's "Notes to Consolidated Financial Statements" in Item 8. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security stockholders during the fourth quarter of 1997. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK & RELATED SECURITY HOLDER MATTERS The Company's common stock is traded on the New York Stock Exchange under the symbol "WOA". The high and low sales prices of the Company's common stock, as reported on the New York Stock Exchange for each quarter in the last two fiscal years, are as follows: Common Stock -------------------------- High Low ---- --- 1997 Fourth Quarter $ 2 1/8 $ 7/8 Third Quarter 2 3/4 1 11/16 Second Quarter 3 1/2 2 1/2 First Quarter 4 1/2 2 7/8 1996 Fourth Quarter $ 6 1/2 $ 4 Third Quarter 6 3/4 4 1/2 Second Quarter 9 3/4 6 3/8 First Quarter 10 3/4 8 5/8 In March 1992, the Company filed with the Securities and Exchange Commission ("SEC") a registration statement on Form S-3 registering $60.0 to $90.0 million of Convertible Subordinated Debentures due 2004 (the "Debentures"). On May 26, 1992, $65.0 million of the Debentures were issued. The Debentures are convertible into WorldCorp common stock at $11.06 per share and bear an annual interest rate of 7%. Semi-annual interest payments are due on May 15 and November 15. In September 1996, the Company issued $10.0 million, 10% Senior Subordinated Notes due September 2000 (the "Notes"). The Company did not declare any cash dividends in 1997 or 1996 and does not plan to do so in the foreseeable future. The Indenture governing the Notes, and the Indenture governing the Company's Debentures, in certain circumstances, restrict the Company from paying dividends or making distributions on its common stock. Under the terms of certain borrowing arrangements, WorldCorp has pledged all of its shares of World Airways and InteliData (see Notes 23 of the Company's "Notes to Consolidated Financial Statements" in Item 8). The approximate number of stockholders of record at April 14, 1998 is 2,273 and does not include those stockholders who hold shares in street name accounts. ITEM 6. SELECTED FINANCIAL DATA WORLDCORP, INC. AND SUBSIDIARIES Selected Financial Data (in thousands except per share data)
Year Ended December 31, ------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 ---- ---- ---- ---- ---- RESULTS OF OPERATIONS: Operating revenues $ 216,092 (a) $ 313,672 $ 246,572 $ 182,147 $ 179,932 Operating expenses 203,393 (a,b) 310,935 240,279 200,959 (f) 203,177(h) Operating income (loss) 12,699 (a) 2,737 6,293 (18,812) (23,245) Earnings (loss) from continuing operations before income taxes and minority interest (14,000) (c) 8,509 (d) 65,685 (e) 10,496 (g) (33,698) Earnings (loss) from continuing operations (19,128) 7,437 64,158 8,308 (30,945) Discontinued operations, net of tax and minority interest -- (19,191) (3,950) -- -- Net earnings (loss) (19,128) (11,754) 60,208 8,308 (30,945) Basic earnings (loss) per share (i): Continuing operations $ (1.29) $ 0.46 $ 4.01 $ 0.54 $ (2.12) Discontinued operations -- (1.19) (0.24) -- -- Net earnings (loss) (1.29) (0.73) 3.77 0.54 (2.12) Diluted earnings (loss) per share (i): Continuing operations $ * $ * $ 2.99 $ * $ * Discontinued operations * * (0.17) -- -- Net earnings (loss) * * 2.82 * * FINANCIAL POSITION: Cash and short-term investments $ 4,659 $ 14,509 $ 78,661 $ 8,828 $ 17,584 Total assets 16,832 176,363 202,089 98,536 98,119 Long-term obligations including current maturities 74,626 114,794 122,700 119,032 129,049 Common stockholders' deficit (59,930) (40,337) (23,297) (88,193) (101,073)
* Amounts are anti-dilutive. (a) As a result of World Airways' purchase of 3,227,000 shares of its common stock from the Company, beginning September 18, 1997, the Company reports its share of World Airways' results of operations under the equity method of accounting. As a result, beginning September 18, 1997, operating revenues and expenses relate entirely to the operations of WorldCorp. (b) Includes a $0.9 million reversal of aircraft costs incurred in 1996 relating to reimbursements for disputed spare engine lease charges and a $1.0 million reversal of accrued maintenance expense in excess of the cost of an overhaul of a DC-10 aircraft. (c) Includes a $17.6 million gain on the sale of World Airways' stock, offset by a $8.7 million loss on purchases of equity by World Airways and a write-off of approximately $20.3 million of restructuring charges by InteliData. (d) Includes the $41.3 million net gain realized on the issuance of stock by InteliData to effect the Merger of US Order and Colonial Data in November 1996; a $2.4 million net loss on other stock transactions of World Airways and InteliData; partially offset by approximately $23.6 million of one-time noncash Merger related charges (see Notes 4 and 5). (e) Includes the $51.3 million gain realized on US Order's offering in June 1995 and other stock transactions (see Note 5) and the $16.0 million gain realized on World Airways' offering in October 1995 (see Note 4). (f) Includes a $4.2 million reversal of excess accrued maintenance reserves associated with the expiration of three DC10 aircraft leases in 1994. (g) Includes a $27.0 million gain on the sale of 24.9% of World Airways common stock (see Note 4) and a $14.5 million gain on the sale of US Order's bill payment operations (see Note 5). (h) Includes $2.3 million of termination fees related to the early return of three DC10-30 aircraft. (i) Earnings per share for the periods presented have been calculated in accordance with Financial Accounting Standards Board's Statement of Financial Accounting Standard No. 128, Earning Per Share. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's Discussion and Analysis of Financial Condition and Results of Operations presented below relates to the operations of WorldCorp, Inc. ("WorldCorp" or "the Company") as reflected in its consolidated financial statements. These statements primarily include the accounts of World Airways, Inc. ("World Airways"). On February 28, 1994, pursuant to an October 1993 agreement, the Company sold 24.9% of its ownership in World Airways to MHS Berhad ("MHS"), a Malaysian aviation company. Effective December 31, 1994, WorldCorp repurchased 5% of World Airways' common stock from MHS. In October 1995, World Airways completed an initial public offering in which 2,000,000 shares were issued and sold by World Airways and 900,000 shares were sold by WorldCorp. On September 18, 1997, World Airways purchased 3,227,000 shares of its common stock from WorldCorp (the "Purchase"). As a result of the Purchase, the Company's ownership percentage in World Airways was reduced to 46.3% and, as such, beginning September 18, 1997, WorldCorp reports its share of World Airways' net assets and results of operations under the equity method of accounting. At December 31, 1997, WorldCorp and MHS owned 3,702,586 shares, or 46.3%, and 1,990,000 shares, or 24.9%, respectively, of World Airways' outstanding common stock. The balance was publicly traded. On August 26, 1997, World Airways completed a private offering, issuing $50.0 million of 8% convertible senior subordinated debentures (the "Debentures") due in 2004 (the "Offering"). The Debentures were subsequently registered with the Securities and Exchange Commission. The Debentures are unsecured obligations, convertible into shares of World Airways' common stock at $8.90 per share, subject to adjustment in certain events, and subordinated to all present and future senior indebtedness of World Airways. In the event of a change in control of World Airways, as defined, the holders of the Debentures could require World Airways to repurchase the outstanding Debentures. The Debentures are not redeemable by World Airways prior to August 26, 2000. In connection with the Offering, and pursuant to an agreement entered into on August 20, 1997, World Airways purchased 3,227,000 shares of its common stock from WorldCorp on September 18, 1997, for approximately $24.7 million. Therefore, at December 31, 1997, WorldCorp owned approximately 46.3% of World Airways. In accordance with a shareholders agreement, dated as of February 3, 1994, as amended, among WorldCorp, MHS Berhad ("MHS") and World Airways, if WorldCorp were to dispose of its holdings in World Airways with the result that WorldCorp's ownership interest in World Airways falls below 51% of the outstanding shares of common stock, then MHS may either sell its shares to a third party or require WorldCorp to sell a pro rata number of shares held by MHS to the party purchasing WorldCorp's World Airways shares. Therefore, as a result of the Purchase, MHS had the right to sell, and accordingly sold 773,000 shares of its World Airways common stock to World Airways (the "MHS Purchase") for approximately $5.9 million, effective January 23, 1998. Effective January 23, 1998, WorldCorp and MHS own approximately 51.2% and 16.8%, respectively, of World Airways, with the balance publicly traded. WorldCorp also had an ownership interest in US Order, Inc. ("US Order"), a company which provided products and services for two markets: home banking and smart telephones. In August 1996, US Order and Colonial Data Technologies Corp. ("Colonial Data") entered into an Agreement and Plan of Merger pursuant to which US Order and Colonial Data would be merged with and into a new public company, InteliData Technologies Corporation ("InteliData"). Pursuant to this Merger, which was consummated on November 7, 1996, InteliData became the successor corporation to US Order. The Merger was treated as a purchase of Colonial Data by US Order. Following this Merger, WorldCorp reports its proportionate share of InteliData's financial results using the equity method of accounting. At December 31, 1997, WorldCorp owned 9,179,273 shares, representing approximately 29.4%, of InteliData. The Company desires to take advantage of the "safe harbor" provisions in the Private Securities Litigation Reform Act of 1995 (the "Act"). Therefore, this report contains forward looking statements that are subject to risks and uncertainties, including, but not limited to, the impact of competitive products, product demand and market acceptance risks, reliance on key strategic alliances, fluctuations in operating results and other risks detailed from time to time in the Company's filings with the Securities and Exchange Commission. These risks could cause the Company's actual results for 1998 and beyond to differ materially from those expressed in any forward looking statements made by, or on behalf of, the Company. OVERVIEW WorldCorp owns positions in companies that operate in two distinct business areas. World Airways (Nasdaq:WLDA) provides worldwide passenger and cargo air transportation to major international airlines, the U.S. Air Force, and international tour operators, with a fleet of MD-11 and DC10-30 aircraft. InteliData develops and markets products and services for the telecommunications and financial services industries through its telecommunications and electronic commerce business divisions. World Airways World Airways is a global provider of long-range passenger and cargo air transportation outsourcing services to major international airlines under fixed rate contracts. World Airways' passenger and freight operations employ 12 wide-body aircraft which are currently operated under contracts, a substantial portion of which are with Pacific Rim airlines. These contracts generally require World Airways to supply aircraft, crew, maintenance and insurance ("ACMI" or "wet lease"), while World Airways' customers are responsible for a large portion of the other operating expenses, including fuel. World Airways' airline customers have determined that outsourcing a portion of their wide-body passenger and cargo requirements can be less expensive, and offers greater operational and financial flexibility, than purchasing new aircraft and additional spare parts required for such aircraft. World Airways also leads a contractor teaming arrangement that is one of the largest suppliers of commercial airlift services to the United States Air Force's Air Mobility Command ("U.S. Air Force" or "USAF"). In July 1996, World Airways restructured its business to focus on ACMI contract services. As such, World Airways ceased all scheduled passenger and scheduled charter services as of October 27, 1996, taking a one-time charge of $21.0 million as of June 30, 1996 (see "Discontinuation of Scheduled Service Operations"). World Airways generally charges customers on a block hour basis rather than a per seat or per pound basis. "Block hours" are defined as the elapsed time computed from the moment the aircraft first moves under its own power at the point of origin to the time it comes to rest at its final destination. World Airways provides most services under two types of contracts: wet lease contracts and full service contracts. Under wet lease contracts, World Airways provides the aircraft, cockpit crew, maintenance and insurance and the customer provides all other operating services and bears all other operating expenses, including fuel and fuel servicing, marketing costs associated with obtaining passengers and/or cargo, airport passenger and cargo handling fees, landing fees, cabin crews, catering, ground handling and aircraft push-back and de-icing services. Under full service contracts, World Airways provides fuel, catering, ground handling, cabin crew and all related support services as well. Accordingly, World Airways generally charges a lower rate per block hour for wet lease contracts than full service contracts, although it does not necessarily earn a lower profit. Because of shifts in the mix between full service contracts and wet lease contracts, fluctuations in revenues are not necessarily indicative of volume trends or profitability. It is important, therefore, to measure World Airways' business volume by block hours flown and to measure profitability by operating income per block hour. World Airways' operating philosophy is to build on its existing ACMI relationships to achieve a strong platform for future growth. World Airways concentrates on ACMI contracts which shift yield, load factor and certain cost risks to the customer. The customer bears the risk of filling the aircraft with passengers or cargo and assumes a portion of the operating expenses, including fuel. World Airways has elected to emphasize its ACMI business because World Airways perceives a number of opportunities created by a growing global economy, particularly growth in second and third world economies where the demand for airlift exceeds capacity. World Airways attempts to maximize profitability by combining its multi-year ACMI contracts with short term, higher-yielding ACMI agreements which meet the peak seasonal requirements of its customers. World Airways responds opportunistically to rapidly changing market conditions by maintaining a flexible fleet of aircraft that can be deployed in a variety of configurations. As noted above, World Airways has focused its business on ACMI contract services. As is common in the air transportation industry, World Airways has relatively high fixed aircraft costs. World Airways operates a fleet of eight MD-11 and four DC10-30 wide-body aircraft, and while World Airways believes that the lease rates on its MD-11 aircraft are favorable relative to lease rates of other MD-11 operators, World Airways' MD-11 aircraft have higher lease costs (although lower operating costs) than its DC10-30 aircraft. Therefore, achieving high average daily utilization of its aircraft (particularly its MD-11 aircraft) at attractive yields are important factors to World Airways' financial results. In addition to fixed aircraft costs, a portion of World Airways' labor costs are fixed due to monthly minimum guarantees to cockpit crewmembers and flight attendants.Factors that affect World Airways' ability to achieve high utilization in its ACMI business include the compatibility of World Airways' aircraft with customer needs and World Airways' ability to react on short notice to customer requirements (which can be unpredictable due to changes in traffic rights, aircraft delivery schedules and aircraft maintenance requirements). Other factors that affect the ACMI business include particular domestic and foreign regulatory requirements, as well as a trend toward aviation deregulation which is increasing the number of alliances and code share arrangements. Significant Customer Relationships In 1997, World Airways' business relied heavily on its contracts with Malaysian Airline System Berhad ("Malaysian Airlines"), Philippine Airlines, Inc. ("Philippine Airlines"), P.T. Garuda Indonesia ("Garuda") and the U.S. Air Force. For the year ended December 31, 1997, these customers provided approximately 21%, 31%, 10% and 25%, respectively, of World Airways' revenues and 23%, 34%, 11% and 16%, respectively, of total block hours. In 1996, these customers provided approximately 34%, 15%, 13%, and 25%, respectively, of World Airways' revenues and 42%, 17%, 14%, and 17%, respectively, of total block hours flown from continuing operations. Malaysian Airlines. World Airways has provided wet lease services to Malaysian Airlines since 1981, providing wet lease services for Malaysian Airlines' scheduled passenger and cargo operations as well as transporting passengers for the annual Hadj pilgrimage. MHS, which owned 16.8% of World Airways as of January 23, 1998, also owns 28% of Malaysian Airlines. World Airways also entered into a 32-month agreement for year-round operations (including the Hadj) with Malaysian Airlines whereby World Airways is providing two passenger aircraft with cockpit crews, maintenance and insurance to Malaysian Airlines' newly-formed charter division through May 1999. However, World Airways agreed to a five month reduction in the utilization of one aircraft during 1997, although the aircraft was redeployed in other activity. Malaysian Airlines has not informed World Airways of any reductions for 1998. World Airways provided three aircraft for 1997 Hadj operations. MAS received notice from the Malaysian Hadj Board that MAS would not participate in the 1998 Hadj pilgrimage. As a result, MAS entered into an agreement on behalf of World Airways for World Airways to provide two DC-10 aircraft to fly in the 1998 Indian Hadj. World Airways has a long-term contract to operate three MD-11 cargo aircraft for Malaysian Airlines. However, beginning in July 1996, and as mutually agreed by the parties, World Airways redeployed two cargo aircraft, which had been operating under these contracts, into another contract which ended in February 1998. World Airways and Malaysian Airlines are currently discussing the redeployment of these aircraft back into Malaysian Airlines' operations during 1998 in order to meet the contracts' original obligations. World Airways can provide no assurances, however, that World Airways will, in fact, be able to do so. Malaysian Airlines is subject to the financial difficulties associated with the adverse economic conditions in Malaysia and the Asia Pacific Region, but it has remained current with its payments for committed block hour minimums provided in the contracts. Failure by Malaysian Airlines to meet its aircraft lease obligations, if not offset by other business, would have a material adverse effect on the financial condition, cash flows and results of operations of World Airways. Garuda. World Airways has flown for Garuda periodically since 1973 and yearly since 1988. Since 1988, World Airways has been one of the largest providers of passenger services to Indonesia for the Hadj pilgrimage. The Indonesian Hadj pilgrimage is the world's largest due to the size of Indonesia's Islamic population. In 1997, approximately 40,000 of the 200,000 Indonesians who traveled to Jeddah for the Hadj pilgrimage flew on World Airways' aircraft. World Airways has reached an agreement with Garuda to operate six aircraft during the 1998 pilgrimage. Philippine Airlines. World Airways had agreements with Philippine Airlines to operate four passenger aircraft until November 1997. As a result of the economic distress experienced in the Philippines, World Airways negotiated to terminate the agreements on two of the aircraft effective in August 1997, and received monthly termination payments totaling $3.0 million through the original end of the agreements in November 1997. In addition, the contracts on the remaining two aircraft were extended until February 1998 and the per block hour rates for those two aircraft were reduced slightly. The two aircraft which were removed from Philippine Airlines service were redeployed by World Airways under agreements with other customers. The contract with Philippine Airlines expired in February 1998. U.S. Air Force. World Airways has provided international air transportation to the U.S. Air Force since 1956. In exchange for requiring pledges of aircraft to the Civil Reserve Air Fleet ("CRAF") for use in times of national emergency, the U.S. Air Force grants awards to CRAF participants for peacetime transportation of personnel and cargo. Although World Airways' agreements with the USAF provide for full service contracts with certain minimum performance requirements, World Airways has risks similar to an ACMI agreement because the USAF agreements are cost-plus contracts at attractive rates. The overall downsizing of the U.S. military places a premium on the mobility of the U.S. armed forces. This is reflected in the stable size over the past several years of the USAF's procurement of commercial airlift services. It is uncertain, however, what impact, if any, the instability within the Middle East will have upon World Airways' future flight operations. The USAF awards points to air carriers acting alone or through teaming arrangements in proportion to the number and type of aircraft such carriers make available to CRAF. World Airways utilizes such teaming arrangements to maximize the value of potential awards. World Airways leads a contractor teaming arrangement that enjoys a large market share of the USAF's overall commercial airlift requirement. During a period in which the U.S. military downsized substantially, World Airways' portion of the fixed USAF award increased from $15.6 million for the government's 1992-93 fiscal year, to $73.4 million for the government's 1997-98 fiscal year. The current annual contract commenced on October 1, 1997 and expires on September 30, 1998. World Airways, however, cannot determine how future cuts in military spending may affect future operations with the U.S. Air Force. VASP. World Airways leased a cargo plane to Viacao Aereo Sao Paulo ("VASP"),a Brazilian airline, under an ACMI contract which began in June 1997 and terminated prior to December 31, 1997. World Airways also during 1997 entered into a Memorandum of Agreement with VASP for the lease of two MD-11 passenger aircraft for a six-month term with a six-month renewal option. This contract was not finalized in 1997 and World Airways currently is not contracting with VASP for any aircraft. The aircraft intended for VASP have been redeployed to other customers of World Airways. Although World Airways' customers bear the financial risk of filling World Airways' aircraft with passengers or cargo, World Airways can be affected adversely if its customers are unable to operate World Airways' aircraft profitably, or if one or more of World Airways' customers experience a material adverse change in their market demand, financial condition or results of operations. Under these circumstances, World Airways can be adversely affected by receiving delayed or partial payments or by receiving customer demands for rate and utilization reductions, flight cancellations, and/or early termination of their agreements. As a result of these and other contracts, World Airways had an overall contract backlog at December 31, 1997 of $305.8 million, compared to $468.0 million at December 31, 1996. Approximately $199.4 million of the backlog relates to operations during 1998. World Airways' backlog for each contract is determined by multiplying the minimum number of block hours guaranteed under the applicable contract by the specified hourly rate under such contract. Approximately 57% of the backlog relates to its contracts with Malaysian Airlines, included in which are the revenues associated with the three cargo aircraft for Malaysian Airlines (see "Significant Customer Relationships - Malaysian Airlines" for further discussion of these contracts). Consistent with prior years, World Airways has substantial uncontracted capacity in the third and fourth quarters of 1998 and beyond. Although there can be no assurance that it will be able to secure additional business to reduce this excess capacity, World Airways is actively seeking customers for 1998 and beyond, and has historically been successful in obtaining new customers. World Airways' financial results and financial condition would be affected adversely if World Airways is unable to secure additional business to reduce this excess capacity. The information regarding major customers and foreign revenue is contained in Note 19 "Major Customers" of WorldCorp's "Notes to Consolidated Financial Statements" in Item 8. Competition The market for outsourcing air passenger and cargo ACMI services is highly competitive. Certain of the passenger and cargo air carriers against which World Airways competes possess substantially greater financial resources and more extensive facilities and equipment than those which are now, or will in the foreseeable future become, available to World Airways. World Airways believes that the most important bases for competition in the ACMI outsourcing business are the age of the aircraft fleet, the passenger, payload and cubic capacities of the aircraft, and the price, flexibility, quality and reliability of the air transportation service provided. Competitors in the ACMI outsourcing market include MartinAir Holland, Tower Air and American TransAir and all-cargo carriers, such as Atlas Air, Gemini Air Cargo, Polar Air Cargo and Kitty Hawk, and scheduled and non-scheduled passenger carriers which have substantial belly capacity. The ability of World Airways to continue to grow depends upon its success in convincing major international airlines that outsourcing some portion of their air passenger and cargo business remains more cost-effective than undertaking passenger or cargo operations with their own incremental capacity and resources. The allocation of military air transportation contracts by the USAF is based upon the number and type of aircraft a carrier, alone or through a teaming arrangement, makes available for use in times of national emergencies. The formation of competing teaming arrangements comprised of larger partners than those sponsored by World Airways, an increase by other air carriers in their commitment of aircraft to the emergency program, or the withdrawal of World Airways' current partners, could adversely affect the size of the USAF contracts, if any, which are awarded to World Airways in future years. Cyclical Nature of Air Carrier Business World Airways operates in a challenging business environment. The air transportation industry is highly sensitive to general economic conditions. Since a substantial portion of passenger airline travel (both business and personal) is discretionary, the industry tends to experience severe adverse financial results during general economic downturns and can be adversely affected by unexpected global political developments. The financial results of air cargo carriers are also adversely affected by general economic downturns due to the reduced demand for air cargo transportation. In 1993 and 1994, the combination of a generally weak global economy and the depressed state of the air transportation industry adversely affected World Airways' operating performance. Seasonality Historically, World Airways' business has been significantly affected by seasonal factors. During the first quarter, World Airways typically experiences lower levels of utilization and yields due to lower demand for passenger and cargo services relative to other times of the year. World Airways experiences higher levels of utilization and yields in the second quarter, principally due to peak demand for commercial passenger services associated with the annual Hadj pilgrimage. In 1998, World Airways' flight operations associated with the Hadj pilgrimage will occur from February 28 to May 12. Because the Islamic calendar is a lunar-based calendar, the Hadj pilgrimage occurs approximately 10 to 12 days earlier each year relative to the Western (Gregorian) calendar. As a result, revenues resulting from future Hadj pilgrimage contracts will continue to shift from the second quarter to the first quarter over the next several years. Geographic Concentration World Airways derives a significant percentage of its revenues and block hours from its operations in the Pacific Rim region. Any further economic decline or any military or political disturbance in this area may interfere with World Airways' ability to provide service in this area. In 1997, the affects of the adverse economic conditions in Malaysia and Indonesia and other countries in the Asia Pacific Region included a national liquidity crisis, significant depreciation in the value of the ringgit and rupiah, higher domestic interest rates, reduced opportunity for refinancing or refunding of maturing debts, and a general reduction in spending throughout the region. These conditions and similar conditions in other countries in the Asia Pacific Region could have a material adverse effect on the operations of Malaysian Airlines and Garuda Indonesia, and therefore on the operations of World Airways. However, management also believes these conditions could provide new opportunities to wet lease aircraft to airlines customers, particularly those who have deferred or canceled new aircraft orders but are still in need of providing additional airlift. Utilization of Aircraft Due to the large capital costs of leasing and maintaining World Airways' aircraft, each of World Airways' aircraft must have high utilization at attractive rates in order for World Airways to operate profitably. Although World Airways' strategy is to enter into long-term contracts with its customers, the terms of World Airways' existing customer contracts are substantially shorter than the terms of World Airways' lease obligations with respect to the aircraft. As mentioned above, a significant portion of World Airways' contract backlog at December 31, 1997, relates to its multi-year contracts with Malaysian Airlines which is subject to the financial difficulties associated with the adverse economic conditions in Malaysia and the Asia Pacific region. In addition, World Airways has substantial uncontracted capacity in the third and fourth quarters of 1998 and beyond. There can be no assurance that World Airways will be able to enter into additional contracts with new or existing customers or that it will be able to obtain enough additional business to fully utilize each aircraft. World Airways' financial position and results of operations could be materially adversely affected even by relatively brief periods of low aircraft utilization and yields. In order to maximize aircraft utilization, World Airways does not intend to acquire new aircraft unless such aircraft would be necessary to service existing needs or World Airways has obtained additional ACMI contracts for the aircraft to service. World Airways is seeking to obtain additional ACMI contracts with new and existing customers, to which such new aircraft would be dedicated when placed in service, but World Airways can provide no assurance that it will obtain new ACMI contracts or that existing ACMI contracts will be renewed or extended. Aircraft Fleet World Airways' strategy is to attempt to ensure that each of the aircraft in its fleet is to a large extent contractually dedicated by World Airways to the service of one or more customers, with limited aircraft available to provide back-up capability. Therefore, in the event the use of one or more of World Airways' aircraft was lost, World Airways might have difficulty fulfilling its obligations under one or more of these contracts, if it were unable to obtain substitute aircraft. On October 24, 1997, one of World Airways' MD-11 aircraft was damaged upon landing. The aircraft was out of service for approximately two and a half months while certain repairs were made. World Airways expects insurance to cover repair and certain related costs, but World Airways' loss of revenues that would have been generated by the aircraft's use had an adverse effect on World Airways' financial condition and results of operations for the fourth quarter of 1997. Maintenance Engine maintenance accounts for most of World Airways' annual maintenance expenses. Typically, the hourly cost of engine maintenance increases as the aircraft ages. World Airways outsources major airframe maintenance and power plant work to several suppliers. World Airways has a 10-year contract expiring in August 2003 with United Technologies Corporation's Pratt & Whitney Group for all off-wing maintenance on the PW 4462 engines that power its MD-11 aircraft. Under this contract, the manufacturer agreed to provide such maintenance services at a cost not to exceed specified rates per hour during the term of the contract. The specified rates per hour are subject to annual escalation, increasing substantially in 1998. Accordingly, while World Airways believes the terms of this agreement have resulted in lower engine maintenance costs than it otherwise would incur, engine maintenance costs will increase substantially during the last five years of the agreement. World Airways began to accrue these increased expenses in 1997 and such expenses will continue to increase during the remainder of the term of the contract as World Airways' aircraft fleet ages. Operating Losses While World Airways generated operating income each year from 1987 through 1992 and in 1995, it sustained operating losses in 1993 and 1994 of $7.3 million and $5.2 million, respectively, and net losses of $9.0 million in each of these two years. For the year ended December 31, 1996, World Airways incurred a net loss of $14.0 million, which resulted from operating losses incurred in World Airways' scheduled service operations, which were discontinued in 1996, and the related estimated loss on disposal. Earnings from continuing operations were $18.4 million for 1996. While World Airways generated operating income for the year ended December 31, 1997 of $16.9 million, there can be no assurance that World Airways will be able to continue generating operating income for 1998 or future years. InteliData InteliData was incorporated on August 23, 1996 under the Delaware General Corporation Law in order to effect the mergers ("Mergers") of US Order and Colonial Data. The Mergers were announced on August 5, 1996, when US Order and Colonial Data entered into an Agreement and Plan of Merger ("Merger Agreement"). On November 7, 1996, the Mergers were consummated with each share of outstanding US Order and Colonial Data common stock being exchanged for one share of InteliData common stock. Accounting for the Mergers was treated as a purchase of Colonial Data by US Order. Accordingly, the financial statements of InteliData reflect the results of US Order through November 7, 1996 and the consolidated results of US Order and Colonial Data thereafter. Effective September 30, 1996, US Order acquired the business of Braun, Simmons & Co., an Ohio corporation ("Braun Simmons"), for approximately $7 million consisting of cash and US Order common stock (and including US Order transaction costs) pursuant to a merger of Braun Simmons into US Order (the "Braun Simmons Acquisition"). Braun Simmons was an information engineering firm specializing in the development of home banking and electronic commerce solutions for financial institutions. The excess purchase price over the fair value of net assets acquired resulted in goodwill of $49.5 million in connection with the Mergers, and $1.9 million in connection with the Braun Simmons Acquisition which were being amortized on a straight-line basis over fifteen years and seven years, respectively. Based on rapid market and technological changes in 1997, the goodwill generated from these transactions was considered impaired and was written-off in the third quarter of 1997. The impairment was based on the excess of the carrying value of the assets over the assets' fair values. The fair value of the assets were generally determined as the estimates of future cash flows generated by the assets. In connection with the Mergers and the Braun Simmons Acquisition, InteliData charged, as of the respective dates of such transactions, in-process research and development expenses of $72.3 million for the Mergers and $4.9 million for the Braun Simmons Acquisition, for purchased in-process technology that had not reached technological feasibility as of the respective dates of such transactions and which did not have alternative future uses. The business of InteliData consists of the businesses previously conducted by US Order and Colonial Data. InteliData develops and markets products and services for the telecommunications and financial services industries through its telecommunications and electronic commerce business divisions. The telecommunications division designs, develops and markets telecommunications products that support intelligent network services being developed and implemented by the regional Bell operating companies ("RBOCs") and other telephone companies ("telcos"). InteliData has concentrated its product development and marketing efforts on products that support Caller ID and other emerging intelligent network services, including smart telephones which provide consumers call management features and the ability to access numerous network services and interactive applications via telephone. InteliData currently offers a line of Caller ID adjunct units, smart telephones, small business telecommunications systems and high-end telecommunications equipment. InteliData also repairs and refurbishes telecommunications products for commercial customers and provides other services that support the development and implementation of intelligent network services. The electronic commerce division develops and markets products and services to assist financial institutions in their home banking and electronic bill payment initiatives. The products are designed to assist consumers in accessing and transacting business with their banks and credit unions electronically, and to assist financial institutions in connecting to and transacting business with third parties, including data processors and billers. The services focus on consulting and maintenance agreements that support InteliData's products. InteliData has initiated a comprehensive process to evaluate its current business strategy, including customer relationships and market opportunities. This could result in further restructuring charges in 1998. During the fourth quarter of 1997, InteliData announced its intention to sell the interactive services division which was established to provide interactive applications for use on smart telephones and other small screen devices, such as alpha-numeric pagers, Personal Communications Systems ("PCS") devices and personal digital assistants ("PDAs"). The discontinued operations of the interactive services division are not considered to be material to the overall financial statements. Successful Implementation of Business Strategy During 1997, as the market for telecommunications products and services changed, InteliData reorganized its telecommunications business in an effort to streamline its operations and focus its telecommunications business on providing customer acquisition services to telcos and on developing a market for small office/home office ("SOHO") products. InteliData also continues to conduct its electronic commerce business, selling software to banks. There can be no assurances that InteliData will be able to successfully implement this business strategy or effectively fund and grow two distinctly separate lines of business. Developing Marketplace Electronic commerce and telecommunications are developing markets. InteliData's future growth and profitability will depend, in part, upon consumer acceptance of electronic home banking and telecommunications technologies. Even if these markets experience substantial growth, there can be no assurance that InteliData's products and services will be commercially successful or benefit from such growth. Much of InteliData's success in the home banking market depends on the financial institutions' success in marketing to the consumer. Much of InteliData's success in the telecommunications market depends on InteliData's ability to meet design specifications and delivery requirements for its products and services. There can be no assurance of the timing of introduction of, necessary regulatory approvals for, or market acceptance of these services and applications. Fluctuations in Operating Results InteliData may experience fluctuations in quarterly operating results due to a variety of factors, some of which are beyond InteliData's control. These include the size and timing of customer orders, changes in InteliData's pricing policies or those of its competitors, new product introductions or enhancements by competitors, delays in the introduction of new products or product enhancements by InteliData or by its competitors, customer order deferrals in anticipation of upgrades and new products, market acceptance of new products, the timing and nature of sales, marketing, and research and development expenses by InteliData and its competitors, the timing of programs offering Caller ID or other intelligent network services by a telco, disruptions in sources of supply, the effects of regulation on Caller ID and other intelligent network services, the timing and extent of promotional activities by a telco, changes in service charges by a telco, other changes in operating expenses, personnel changes and general economic conditions. Additionally, certain RBOCs have recently merged and InteliData is unable to assess the future effect on InteliData of these mergers and of other possible consolidations in the telecommunications industry. No assurance can be given that such quarterly variations will not occur in the future and, accordingly, the results of any one quarter may not be indicative of the operating results for future quarters. Reliance on Caller ID Revenues A substantial majority of InteliData's revenues are derived from sales and leases of its Caller ID products. Caller ID is a mature market and InteliData has experienced declining gross margins from increased competition. The sale or lease of these products is directly linked to the implementation and promotion of Caller ID service by telcos. The timing of such implementation may be affected by government regulation, by changes in the telecommunications industry resulting from changes in the regulatory and competitive environment, by switch and software upgrades and by other factors. There can be no assurance that telcos will continue to introduce and promote this service successfully or that it will gain widespread market acceptance. Delays in the introduction of Caller ID service in local markets or failure of this service to gain widespread market acceptance would materially and adversely affect InteliData's business, operating results and financial condition. Concentration of Distribution of Products and Services InteliData sells its telecommunications products and services to telcos, individual telephone subscribers, other equipment manufacturers on a private label basis ("private label customers") and retail chains. In addition, InteliData leases its products to individual telco subscribers. Sales and leases to individual telco subscribers are largely dependent on direct fulfillment distribution arrangements with certain RBOCs and other telcos. Since InteliData views the telcos with which it maintains direct fulfillment relationships as its customers, it considers its customer base to be highly concentrated. InteliData's current telco fulfillment arrangements are not exclusive and may be terminated by either party. The loss of any one or more of InteliData's major customers or the termination of its distribution arrangements with any telco or the failure to be selected for significant orders or programs by a telco could materially and adversely affect InteliData's business, operating results, and financial condition. In addition, consolidation in the telecommunications industry or changes in the telecommunications regulatory environment could result in the loss of such customers or business. Technological Considerations InteliData's business activities are concentrated in fields characterized by rapid and significant technological advances. There can be no assurance that InteliData will remain competitive technologically or that InteliData's products, processes or services will continue to be reflective of such advances. Failure to introduce new products or product enhancements that achieve market acceptance on a timely basis could materially and adversely affect InteliData's business, operating results and financial condition. There can be no assurance that InteliData will not encounter unanticipated technical, marketing or other problems or delays relating to new products, features or services which InteliData has recently introduced or which it may introduce in the future. Moreover, there can be no assurance that InteliData's new products, features or services will be successful, that the introduction of new products, features or services by InteliData's competitors will not materially and adversely affect the sales of InteliData's existing products or that InteliData will be able to adapt to future changes in the telecommunications industry. Most of InteliData's competitors and potential competitors have significantly greater financial, technological and research and development resources than InteliData. Dependence on Foreign Production InteliData's Caller ID units and certain other products, are manufactured by companies with facilities in Hong Kong, Taiwan, and the People's Republic of China. These facilities are supplemented, in part, by other manufacturers in Asia for certain smart telephone and small business system products and by limited manufacturing facilities in Connecticut. The availability or cost of these telecommunications products may be adversely affected by political, economic or labor conditions in Hong Kong, Taiwan or the People's Republic of China, including the 1997 return of Hong Kong to China, and by fluctuations in currency exchange rates. In addition, a change in the tariff structure or other trade policies of the United States or countries from which InteliData will import products could adversely affect InteliData's foreign manufacturing strategies. Competition Telecommunications The market for InteliData's products is highly competitive and subject to increased competition resulting from rapid technological change as well as resulting from changes in the telecommunications regulatory environment, telecommunications industry consolidation and the emergence of new market entrants. At present, InteliData's principal competitors are CIDCO, Lucent, and Northern Telecom. InteliData's Caller ID products also compete with Caller ID adjuncts and telephones offered by Panasonic, Sony, Thomson, TT Systems and US Electronics. InteliData expects competition in the markets for its telecommunications products and services to increase in the future and expects competition from existing and new competitors, possibly including RBOCs, other telcos or other current customers, as well as from network switch-based services and from the increased application of cellular technology. InteliData's primary current and potential competitors in the market for its telecommunications products and services have substantially greater financial, marketing and technical resources than InteliData. Competition could materially and adversely affect InteliData's results of operations through price reductions and loss of market share. InteliData competes with a large number of competitors for its repair services and other services supporting the development and implementation of intelligent network services. Several of InteliData's competitors in the market for such services have substantially greater financial, marketing and technological resources than InteliData. There can be no assurance that InteliData will be able to continue to compete successfully against its existing competitors or that it will be able to compete successfully against new competitors. Electronic Commerce The market for interactive products and services is highly competitive and subject to rapid innovation and technological change, shifting consumer preferences and frequent new product introductions. InteliData's home banking products and services compete with services offered by a number of competitors and competition may intensify as a result of new market entrants. Banks have developed home banking products for their own customers and, in the future, may offer these services to other banks. Non-banks also may develop home banking products to offer to banks. Computer software and data processing companies also offer home banking services. InteliData expects that competition in these areas will increase in the near future. Dependence on Key Employees InteliData is highly dependent on certain key executive officers and technical employees to manage the operations and business of InteliData as well as to implement the business plans of InteliData on an ongoing basis. The loss of any such key employees could have an adverse impact on the future operations of InteliData. Regulation The Telecommunications Act of 1996 and regulations or orders promulgated thereunder may result in or accelerate changes in various aspects of the telecommunications industry, including the competitive environment, the delivery and pricing of various telecommunications products and services and possible consolidation. Although InteliData is unable to predict what effect, if any, the Telecommunications Act of 1996 or other regulatory developments may have upon the telecommunications industry or InteliData's business, any such effects could have a material adverse impact on the future operations of InteliData. In the United States, Caller ID and other intelligent network services are subject to federal and state regulation. Caller ID and other intelligent network services may in the future be subject to further regulation by the federal government, state public utility commissions and other regulatory authorities, as well as court challenges, including possible challenges due to protests from special interest groups that object to such services on the basis of privacy concerns. A series of FCC orders effective December 1, 1995, require all United States telephone service providers with Signaling System 7 switching architecture to transmit to each other without charge Caller ID number information on interstate calls within the United States (except for public pay phones, hotel and motel lines, and party lines). FCC orders also require that by March 28, 1998, telcos that offer Caller ID service must provide to their telephone subscribers without charge per-call blocking and unblocking mechanisms to block and unblock the transmission of their Caller ID information on interstate calls and must inform subscribers that their telephone numbers may be identified to a called party and how to use these blocking and unblocking capabilities Volatility of Stock Price The market price of InteliData's stock has experienced significant volatility. The stock market has experienced volatility that has particularly affected the market prices of equity securities of many high technology and developmental stage companies and that has often been unrelated to the operating performance of such companies. Factors such as announcements of the introduction of new products or services by InteliData or its competitors, market conditions in the banking, telecommunications and other emerging growth company sectors and rumors relating to InteliData or its competitors may have a significant impact on the market price of InteliData's stock. Limited Proprietary Protection InteliData possesses limited patent or registered intellectual property rights with respect to its technology. InteliData depends in part upon its proprietary technology and know-how to differentiate its products from those of its competitors and works independently and from time to time with third parties with respect to the design and engineering of its own products. InteliData also relies on a combination of contractual rights and trade secret laws to protect its proprietary technology. There can be no assurance, however, that InteliData will be able to protect its technology or successfully develop new technology or gain access to such technology or that third parties will not be able to develop similar technology independently or that competitors will not obtain unauthorized access to InteliData's proprietary technology, that third parties will not misuse the technology to which InteliData has granted access, or that InteliData's contractual or legal remedies will be sufficient to protect InteliData's interests in its proprietary technology. Certain of Lucent's Caller ID patents are licensed by Lucent to InteliData and others, including InteliData's competitors. If the Lucent license were terminated and InteliData were unable to negotiate a new patent license agreement with Lucent, InteliData would no longer be authorized to manufacture or sell Caller ID products in the United States other than to the RBOCs and to Lucent, and InteliData's business would be materially and adversely affected. Limited Sources of Supply The key components used in InteliData's products are currently being purchased from multiple sources, except for its application specific integrated circuit ("ASIC") chips, which are purchased from a single source. Although InteliData believes it could develop other sources for each of the components for its products, the process could take several months, and the inability or refusal of any such source to continue to supply components could have a material adverse effect on InteliData pending the development of an alternative source. RESULTS OF OPERATIONS World Airways As previously discussed, on September 18, 1997, World Airways purchased 3,227,000 shares of its common stock from the Company for approximately $24.7 million in cash (the "Purchase"). As a result of the Purchase, the Company's ownership percentage in World Airways was reduced to 46.3%. The Company's consolidated results for the year ended December 31, 1997 include the results of World Airways for the period prior to the Purchase. Following the Purchase, the Company reports its proportionate share of World Airways' financial results using the equity method of accounting. For the year ended December 31, 1997, the Company's portion of World Airways' loss for the period after the Purchase approximated $0.5 million and is recorded in "equity in earnings (loss) of affiliates, net" in the accompanying consolidated statement of operations. The following represents selected financial information (in thousands) for World Airways: Year Ended December 31, ------------------------- 1997 1996 ---- ---- Operating Revenues: Flight operations $ 306,800 $ 296,930 Flight operations subcontracted to other carriers 2,058 11,726 Other 554 931 ------- ------- Total operating revenue 309,412 309,587 ------- ------- Operating Expenses: Flight 71,845 69,128 Maintenance 65,972 60,462 Aircraft costs 91,422 85,227 Fuel 17,615 19,255 Flight operations subcontracted to other carriers 2,603 12,932 Promotions, sales and commissions 9,569 8,229 Depreciation and amortization 8,651 8,032 General and administrative 24,878 24,677 ------- ------- Total operating expenses 292,555 287,942 ------- ------- Operating income $ 16,857 $ 21,645 ========== =========== Results of operations discussed herein relate to World Airways' operations for all of 1997. Year Ended December 31, 1997 Compared to Year Ended December 31, 1996 Total block hours decreased 6,745 hours, or 13%, to 43,780 hours in 1997 from 50,525 hours in 1996, with an average of 12.9 available aircraft per day in 1997 compared to 14.1 in 1996. Average daily utilization (block hours flown per day per aircraft) decreased to 9.3 hours in 1997 from 9.8 hours in 1996. In 1997, World Airways continued to obtain a higher percentage of its revenues under wet lease contracts as opposed to full service contracts. In 1997, wet lease contracts accounted for 81% of total block hours, an increase from 68% in 1996. Continuing Operations Block hours from continuing operations decreased slightly to 43,780 hours in 1997 from 43,897 hours in 1996. Operating Revenues. Revenues from flight operations increased $9.9 million, or 3%, in 1997 to $306.8 million from $296.9 million in 1996. Revenues in 1997 included approximately $11.2 million related to minimum guarantee payments received from Malaysian Airlines for flying levels which did not meet the minimum monthly levels specified in the contracts, and $3.0 million related to contract modification payments received from Philippine Airlines, for which World Airways incurred no related variable costs. Operating Expenses. Total operating expenses increased $4.7million, or 2%, in 1997 to $292.6 million from $287.9 million in 1996. Flight operations expenses include all expenses related directly to the operation of the aircraft other than aircraft costs, fuel and maintenance. Also included are expenses related to flight dispatch and flight operations administration. Flight operations expenses increased $2.7 million, or 4%, in 1997 to $71.8 million from $69.1 million in 1996. This increase resulted primarily from higher crew costs relating to an accrual for the profit sharing bonus plan, an increase in wage rates including an increase in the guarantee payment, and an increase in training costs relating to crewmember attrition, partially offset by the shift in the mix of business from full service to wet lease operations. Flight attendant costs remained consistent despite the shift to wet lease operations as a result if flight attendants receiving minimum guarantee payments. Maintenance expenses increased $5.5 million, or 9%, in 1997 to $66.0 million from $60.5 million in 1996. This increase resulted primarily from the increase in the number of aircraft dedicated to World Airways' continuing operations and the integration of additional aircraft into the fleet during 1996. In addition, World Airways experienced an increase in costs associated with the MD-11 aircraft and related engines as a result of certain manufacturer guarantees and warranties which began to expire in 1995 and will fully expire by 1998. World Airways expects its maintenance expense to increase further in 1998 due to escalations in the specified rates per hour under World Airways' maintenance agreement. The increase was partially offset by a reversal in 1997 of $1.0 million of accrued maintenance expense in excess of the cost of an overhaul of a DC-10 aircraft. Aircraft costs increased $6.2 million, or 7%, in 1997 to $91.4 million from $85.2 million in 1996. This increase resulted from the increase in the number of aircraft dedicated to World Airways' continuing operations, primarily due to the lease of two MD-11ER aircraft in March 1996, and the lease of additional spare engines necessary to maintain the expanded fleet. This increase was partially offset by the reversal of approximately $0.9 million in lease costs, which had been recorded in 1996, as a result of a settlement with the engine manufacturer for reimbursements related to disputed spare engine lease charges. Fuel expenses decreased $1.7 million, or 9%, in 1997 to $17.6 million from $19.3 million in 1996. This decrease is due primarily to the shift from full service to wet lease operations where World Airways is not responsible for fuel costs. This decrease was partially offset by an increase in price per gallon. Promotions, sales and commissions increased $1.4 million, or 17%, in 1997 to $9.6 million from $8.2 million in 1996. This increase resulted primarily from an increase in commissions related to increased flying during 1997 under the Philippine Airlines contracts. Depreciation and amortization increased $0.7 million, or 9%, in 1997 to $8.7 million from $8.0 million in 1996. This increase resulted primarily from depreciation on the increased levels of spare parts required to support the additional MD-11 aircraft described above, partially offset by a decrease in the amortization of certain intangible assets. General and administrative expenses increased $0.2 million, or 1%, in 1997 to $24.9 million from $24.7 million in 1996. This increase was primarily due to the hiring of additional administrative personnel, beginning in the second quarter of 1996, necessary to support the growth in World Airways' core business and related marketing efforts and an increase in property tax accruals. This increase was partially offset by a reduction in certain legal and professional fees. Discontinued Operations World Airways commenced service between Tel Aviv and New York in July 1995. In the first quarter of 1996, World Airways generated $4.2 million in losses related to these operations. In the second quarter of 1996, World Airways expanded its scheduled service operations with service between the United States and South Africa and introduced scheduled charter operations between the United States and various destinations within Europe. As World Airways was unable to operate these scheduled service operations profitably, in July 1996, World Airways announced its decision to exit its scheduled service operations by October 1996 and focus its operations on its core wet lease operations. Consistent with this decision, World Airways ceased all scheduled operations as of October 27, 1996. As a result, World Airways' scheduled service operations were reflected as discontinued operations as of June 30, 1996, and prior period results were restated to reflect scheduled service operations as discontinued operations. Loss from discontinued operations (net of income tax effect) approximated $11.7 million for the year ended December 31, 1996. In addition, an estimated loss on disposal of $21.0 million (net of income tax effect) was recorded as of June 30, 1996. World Airways recognized an additional $0.5 million of expense in the fourth quarter of 1997 and believes that substantially all the costs relating to the disposal have been recorded as of December 31, 1997. World Airways is subject to claims arising as a result of the discontinuance of its scheduled service operations, but World Airways believes it has substantial defenses to these actions. Year Ended December 31, 1996 Compared to Year Ended December 31, 1995 Total block hours increased 13,183 hours, or 35%, to 50,525 hours in 1996 from 37,342 hours in 1995, with an average of 14.1 available aircraft per day in 1996 compared to 10.3 in 1995. Average daily utilization (block hours flown per day per aircraft) decreased to 9.8 hours in 1996 from 9.9 hours in 1995. In 1996, World Airways continued to obtain a higher percentage of its revenues under wet lease contracts as opposed to full service contracts. In 1996, wet lease contracts accounted for 68% of total block hours, consistent with 70% in 1995. Total operating revenues increased $67.2 million, or 28%, to $309.6 million in 1996 from $242.4 million in 1995. Continuing Operations Block hours from continuing operations increased 8,269 hours, or 23%, to 43,897 hours in 1996 from 35,628 hours in 1995. Operating Revenues. Revenues from flight operations increased $64.3 million, or 28%, to $296.9 million in 1996 from $232.6 million in 1995. This increase was primarily attributable to an increase in military flying and an increase in revenues generated from its 1996 Hadj operations and services to certain international carriers, partially offset by a decrease in cargo operations resulting from a shift in the mix of business during 1996. Operating Expenses. Total operating expenses increased $61.4 million, or 27%, in 1996 to $287.9 million from $226.5 million in 1995. Flight operations expenses include all expenses related directly to the operation of the aircraft other than aircraft cost, fuel and maintenance. Also included are expenses related to flight dispatch and flight operations administration. Flight operations expenses increased $5.5 million, or 9%, in 1996 to $69.1 million from $63.6 million in 1995. This increase resulted primarily from an increase in block hours flown and higher crew costs and up-front training expenses in connection with the integration of additional aircraft into the fleet. These increases were partially offset by a decrease in accrued profit sharing expenses. In 1995, World Airways accrued profit sharing expenses as a result of earnings experienced during that period. No such accrual was necessary in 1996 as a result of losses from the discontinuation of scheduled service operations. Maintenance expenses increased $18.7 million, or 45%, in 1996 to $60.5 million from $41.8 million in 1995. This increase resulted primarily from the integration of additional aircraft into the fleet and a corresponding increase in block hours flown. In addition, World Airways experienced an increase in costs associated with the MD-11 aircraft and related engines as a result of certain manufacturer guarantees and warranties which began to expire in 1995 and will fully expire by 1998. Aircraft costs increased $17.9 million, or 27%, in 1996 to $85.2 million from $67.3 million in 1995. This increase was primarily due to the lease of two MD-11ER aircraft in the first quarter of 1996 and the lease of incremental DC10-30 aircraft which began in the second and fourth quarters of 1995 and the first quarter of 1996, partially offset by the return of two DC10-30 aircraft to the lessor in the third quarter of 1995. Fuel expenses increased $2.6 million, or 16%, in 1996 to $19.3 million from $16.7 million in 1995. This increase is due primarily to an increase in fuel utilized in connection with its military operations and a slight increase in price per gallon. Promotions, sales and commissions increased $4.6 million in 1996 to $8.2 million from $3.6 million in 1995. This increase resulted primarily from commissions paid in connection with the new Philippine Airlines contract and an increase in teaming arrangement commissions associated with the larger fixed-award contract received from the U.S. Air Force beginning October 1995. Depreciation and amortization increased $1.9 million, or 31%, in 1996 to $8.0 million from $6.1 million in 1995. This increase resulted primarily from an increase in spare parts required to support the additional MD-11 aircraft and incremental DC10-30 aircraft described above. General and administrative expenses increased $6.5 million, or 36%, in 1996 to $24.7 million from $18.2 million in 1995. This increase was primarily due to the hiring of additional administrative personnel necessary to support the growth in its core business and an increase in certain legal and professional fees. InteliData As previously discussed, in August 1996, US Order and Colonial Data entered into an Agreement and Plan of Merger pursuant to which US Order and Colonial Data were merged with and into a new public company, InteliData. Pursuant to the Mergers on November 7, 1996, InteliData became the successor corporation to US Order. As of November 7, 1996, WorldCorp's ownership interest in InteliData was approximately 28.9%. The Company's consolidated results for 1996 and 1995 include the results of US Order for the period in 1996 prior to the Merger, and for the twelve months ended December 31, 1995, respectively. Following the Merger, the Company reports its proportionate share of InteliData's financial results using the equity method of accounting. See "Other Income (Expense)-Equity in Loss of Affiliate." Year Ended December 31, 1997 Compared to Year Ended December 31, 1996 The following represents selected financial information (in thousands) for InteliData for the year ended December 31, 1997, compared to the year ended December 31,1996: Year Ended December 31, --------------------------------- 1997 1996 ---- ---- Revenues Telecommunications $ 56,358 $ 10,942 Electronic commerce 3,951 2,957 ------ ------ Total revenues 60,309 13,899 ------ ------ Cost of revenues Telecommunications $ 41,385 $ 8,791 Electronic commerce 2,129 1,657 ------ ------ Total cost of revenues 43,514 10,448 ------ ------ Gross profit 16,795 3,451 Operating expenses General and administrative 14,826 16,121 Selling and marketing 13,891 2,011 Research and development 9,691 2,649 Unusual charges 69,691 78,782 ------- ------- Total operating expenses 108,099 99,563 ------- ------- Operating loss $ (91,304) $ (96,112) ======== ======== The consummation of the Mergers on November 7, 1996 and the required accounting presentation of the historical financial statements had a significant impact on the results of InteliData's operations for 1997 compared to 1996. InteliData's consolidated total revenues and all categories of expenses are significantly greater in 1997 than 1996 because 1997 results include a full year of operations for all businesses and 1996 results only include approximately two months of Colonial Data's operations and three months of Braun Simmons' operations. For the year ended December 31, 1997, InteliData's revenues were $60.3 million, including $56.4 million generated by the telecommunications division primarily resulting from marketing and promotional campaigns for Caller ID units and services conducted by telcos and InteliData. In addition, InteliData realized an increase in revenues generated from its electronic commerce division which totalled approximately $3.9 million in 1997, attributed primarily to revenues generated by the professional service and maintenance contracts associated with the expansion of the division's software sales. This increase was partially offset by the elimination of customer service support provided to Visa-member banks during the second half of 1997. During 1997, InteliData transitioned from providing primarily back-end support to financial institutions to selling software that assists financial institutions in processing customers who bank remotely, either from a personal computer or telephone. InteliData expects that revenues generated in the electronic commerce division in 1998 will be a direct result of software sales and the related consulting business. InteliData's cost of revenues for 1997 increased to $43.5 million, including $41.4 million from its telecommunications division. Gross profit margins for the telecommunications and electronic commerce divisions were 27% and 46%, respectively, for 1997, compared to 20% and 44%, respectively, in 1996. Gross profit margins for the telecommunications division increased due to the Mergers and the change in product mix and increased margins on the U.S. West lease base. The increase in gross profit margin for the electronic commerce division is attributed to a change in the products and services offered between the two periods. During 1997, InteliData experienced declining gross margins in Caller ID products because the market matured and competition increased. InteliData expects its gross margin percentages to vary in future periods based upon the revenue mix between product sales and services revenues and based upon the composition of services revenues earned during the period. InteliData's total operating expenses were $108.1 million during 1997. Included in the 1997 operating expenses were unusual charges of $69.7 million associated primarily with a strategic repositioning of InteliData's telecommunications division based on recent events in the marketplace and a corporate restructuring. In connection with this repositioning and corporate restructuring, InteliData evaluated its financial position and determined that it would be appropriate to charge to operations the remaining unamortized costs of intangible assets due to impairment, adjust inventory carrying amounts to the lower of cost or market, and reflect certain restructuring charges, including charges for separation agreements with employees and charges associated with the termination of a joint venture agreement. Additionally, InteliData adjusted the carrying value of a receivable from the sale of stock for an advertising credit based on its expected use of the credit. Such charges aggregated $49.8 million for the impairment of intangible assets; $11.3 million for inventories and commitments; $2.4 million for restructuring charges and separation agreements; $3.7 million for assets relating to the joint venture; and $2.5 million for impairment of the advertising credits. The impairment was measured based on the excess of the net carrying value of the assets over the assets' fair values. The fair values of the assets were generally determined based on estimates of future cash flows to be generated by the assets. The charges related to the joint venture are associated with the termination of the Worldwide Telecom joint venture by InteliData in the third quarter of 1997. General and administrative expenses decreased primarily as a result of expenses related to 1996 losses in the amount of $2.8 million related to InteliData's investment in Home Financial Network, Inc. ("HFN"), a development stage personal computer software company, and the associated goodwill. The Company believed its investment in HFN was impaired based on its history of losses. In 1997, $1.3 million of losses for the HFN investment were incurred along with increased expenses associated with employing certain general and administrative personnel for a full year in 1997 and increased litigation expenses during 1997. Also contributing to the difference were the amortization of intangible assets and nonrecurring charges for certain customer service operations. As a result of InteliData's increased marketing efforts to promote its residential and small business telecommunications product lines to retail markets and to regional Bell operating companies and other telephone operating companies, selling and marketing expenses increased during 1997 compared to 1996. Finally, research and development costs increased during 1997 primarily from the developing, designing, and testing of new products and services. InteliData has been actively engaged in research and development since its inception and expects that these activities will be essential to the operations of InteliData in the future. Year Ended December 31, 1996 Compared to Year Ended December 31, 1995 Operating Revenue. InteliData's operating revenues reported by WorldCorp decreased by $0.1 million from $4.2 million for the full year of 1995 to $4.1 million for the period of 1996 prior to the Merger, primarily due to a reduced 10-month 1996 reporting period versus a 12-month reporting period in 1995. Operating Expenses. InteliData's operating expenses reported by WorldCorp increased by $9.7 million from $9.5 million for the twelve months ended December 31, 1995 to $19.2 million for the period of 1996 prior to the Merger. InteliData's operating expenses include cost of revenue, general and administrative expenses, research and development costs, and advertising and promotion expenses. The increases in InteliData's operating expenses were attributable to employee related expenses for increases in personnel, amortization of intangible assets, increases in research and development costs, higher sales and marketing expenses and the write-off of in-process research and development expenses related to technology that had not reached technological feasibility and did not have alternative future uses, which was purchased in the Braun Simmons acquisition in September 1996. On November 7, 1996, US Order and Colonial Data were merged with and into InteliData. As described above, following the Mergers, WorldCorp reports its share of InteliData's financial results under the equity method of accounting. As a result of the Mergers, during 1996, InteliData reported one-time, noncash merger related charges of approximately $72.3 million, of which WorldCorp recorded its 28.9% share, or $20.9 million. These charges related to the write-off of in-process research and development expenses for purchased in-house technology that had not reached technological feasibility as of the date of the Mergers with Colonial Data and did not have alternative future uses. The remaining $2.4 million loss represents WorldCorp's proportionate share of InteliData's operating results for the period following the Merger. WorldCorp Operating Expenses General and administrative expenses decreased by $1.6 million for the year ended December 31, 1997 to $2.2 million from $3.8 million during the comparable 1996 period. This decrease was primarily due to a reduction of legal fees, bank fees and wages. General and administrative expenses decreased by $0.5 million for the year ended December 31, 1996 to $3.8 million from $4.3 million in the comparable 1995 period. This decrease was primarily due to a reduction in legal and professional fees. Other Income (Expense) Equity in Earnings (Loss) of Affiliates, Net. On September 18, 1997, World Airways purchased 3,227,000 shares of its common stock from WorldCorp for approximately $24.7 million in cash. As a result of the purchase, the Company's ownership percentage in World Airways was reduced to 46.3% and, as such, beginning September 18, 1997, WorldCorp reports its share of World Airways' net assets and results of operations under the equity method of accounting. The Company's portion of World Airways' loss for the period after the purchase approximated $0.5 million and is recorded in "equity in earnings (loss) of affiliates, net." The Company's equity in the losses of InteliData, described above, approximated $26.5 million and $23.3 million for the years ended December 31, 1997 and 1996, respectively. Gain (Loss) on Issuances (Purchases) of Equity by Affiliates, Net and Gain on Sales of Subsidiaries' Stock. As a result of the purchase by World Airways of 3,227,000 shares of its common stock from WorldCorp, WorldCorp recognized a gain on sale of its common stock of World Airways of approximately $17.6 million in 1997, which was partially offset by a $8.7 million loss on purchases of equity by World Airways. As a result of the Mergers in 1996, WorldCorp recognized a gain on the issuance of equity by InteliData of $42.6 million which was partially offset by the elimination of approximately $1.3 million of goodwill related to US Order. Also, in 1996, the Company recognized a gain of $1.8 million associated with US Order's issuance of stock to acquire Braun Simmons. Finally, the Company recorded a loss of approximately $4.2 million as a result of World Airways' purchase of treasury stock during 1996. Interest Expense. Interest expense decreased $2.1 million, or 18% in 1997 to $9.6 million in 1997 from $11.7 million in 1996. The decrease is primarily due to the extinguishment of the $25.0 million subordinated notes in September 1996, partially offset by the addition of the $10.0 million Senior Subordinated Notes entered into on September 30, 1996. Other, Net. Other expenses decreased by $1.6 million from expense of $1.6 million in 1996 to income of $0.03 million in 1997, primarily due to a $1.6 million loss in 1996 representing US Order's proportionate share of losses of an affiliate accounted for under the equity method. Other expenses increased by $3.3 million from income of $1.7 million in 1995 to expense of $1.6 million in 1996, primarily due to a $1.6 million loss representing US Order's proportionate share of losses of an affiliate accounted for under the equity method. LIQUIDITY AND CAPITAL RESOURCES The Company is a highly leveraged holding company. As a holding company, all of WorldCorp's funds are generated through its positions in World Airways and InteliData, which have not paid dividends on common stock since 1992. At December 31, 1997, World Airways has a working capital deficit of $1.8 million and has substantial debt and lease commitments. At December 31, 1997, InteliData has working capital of $32.4 million, with no long-term debt. World Airways' ability to pay dividends is currently restricted under certain borrowing arrangements. Additionally, World Airways and InteliData currently intend to retain their future earnings, if any, to fund the growth and development of their businesses and, therefore, do not anticipate paying any cash dividends in the foreseeable future. As of December 31, 1997, WorldCorp has $4.7 million in cash and cash equivalents and has substantial parent company repayment obligations for 1998, including principal and interest of approximately $15.6 million for 1998. Included in this amount is $10.0 million of senior subordinated notes outstanding. Subsequent to year-end, the Company prepaid $5.0 million of the senior subordinated notes and the remaining $5.0 million may be required to be prepaid in the near term in the event the Company does not meet the minimum "Asset Value" requirement, as defined, at the end of any quarter. Subsequent to year-end, World Airways loaned the Company $2.0 million, which was used by WorldCorp to pay debt obligations. In order to meet its debt service obligations and its general and administrative costs, the Company must use its cash and either sell shares of World Airways or InteliData, or obtain additional financing, refinance existing borrowings or obtain concessions from its lenders. WorldCorp has pledged all of its shares of World Airways and InteliData as collateral for certain borrowings (see Item 1 - Business). Although management intends to attempt to refinance certain of its borrowings or arrange for concessions from its lenders, there can be no assurance that these efforts will be successful. As a result, substantial doubt exists regarding the Company's ability to meet its obligations in 1998 and to continue as a going concern. For a separate discussion of factors affecting World Airways' and Intelidata's liquidity and capital resources, refer to Exhibits 10.58 and 10.59, respectively. Cash Flows from Operating Activities Operating activities provided $24.0 million in cash for the year ended December 31, 1997 compared to using $25.4 million of cash in the comparable period in 1996. This increase in cash in 1997 resulted primarily from World Airways providing cash from operating activities for the period January 1, 1997, through September 17, 1997, due to an increase in net earnings and a decrease in accounts receivable partially offset by a decrease in accounts payable. Cash Flows from Investing Activities Investing activities used $61.3 million in cash for the year ended December 31, 1997 compared to using $26.0 million in the comparable period in 1996. This increase in cash used resulted primarily from the reduction of the Company's consolidated cash as a result of the Company's change to the equity method of accounting for its investment in World Airways. This increase was partially offset by a reduction in World Airways' purchases of rotable spare parts during 1997. Cash Flows from Financing Activities Financing activities provided $29.5 million in cash for the year ended December 31, 1997 compared to using $10.6 million in the comparable period in 1996. In 1997, the Company received $23.7 million, net from the sale of 3,227,000 shares of its World Airways' common stock. In addition, the Company increased its net borrowings by $10.6 million during 1997. In 1996, the Company and World Airways purchased 1,337,500 and 718,000 shares respectively, of their common stock in the fourth quarter of 1996. Financing Developments On August 29, 1996, the Company entered into a bridge loan (the "Bridge Loan") with a financial institution pursuant to which the Company borrowed $25.0 million and subsequently retired its existing 13 7/8% Subordinated Notes of the same amount. The Bridge Loan was due September 29, 1997 and earned interest of LIBOR plus 2.5%, payable monthly. On September 30, 1996, the Company entered into a purchase agreement (the "Purchase Agreement") which contained a series of Senior Subordinated Notes ("Notes") totaling $10.0 million which was used to retire $10.0 million of the Bridge Loan in October 1996. The remaining balance on the Bridge Loan of $15.0 million was repaid in September 1997. As described above, subsequent to year-end, the Company prepaid $5.0 million of the Notes pursuant to mandatory prepayment obligations under the Indenture governing the Notes (the "Indenture"). The Company may be required to prepay the remaining $5 million outstanding under the Notes if it does not meet the minimum "Asset Value" requirement, as defined, at the end of any quarter. There can be no assurance that the Company will satisfy such requirement in 1998. Subsequent to year-end, the World Airways loaned the Company $2.0 million, which was used by Company to pay debt obligations. The loan is collateralized by one million of World Airways' stock owned by the Company and bears interest at prime plus 2.5% and is due April 28, 1998. OTHER MATTERS Legal and Administrative Proceedings World Airways and WorldCorp (the "World Defendants") were defendants in litigation brought by the Committee of Unsecured Creditors of Washington Bancorporation in August 1992, captioned Washington Bancorporation v. Boster et. al., Adv. Proc. 92-0133 (Bankr. D.D.C.) (the "Boster Litigation"). Under a settlement agreement, the plaintiff agreed to dismiss with prejudice the Boster Litigation against all defendants, including the World Defendants, with each party to bear its own costs. Under the settlement agreement, the World Defendants do not have any further liability in the Boster Litigation. World Airways has periodically received correspondence from the FAA with respect to minor noncompliance matters. In November 1996, as the FAA has increased its scrutiny of U.S. airlines, World Airways was assessed a preliminary fine of $810,000 in connection with certain security violations by ground handling crews contracted by World Airways for services at foreign airport locations. Under 49 U.S.C., Section 46301, any violation of pertinent provisions of 49 U.S.C. Subsection 40101 or related rules is subject to a civil penalty for each violation. Upon review of the evidence or facts and circumstances relating to the violation, the statute allows for the compromise of proposed civil penalties. The penalties were proposed by the FAA in connection with recent inspections at foreign airport facilities and relate primarily to ground handling services provided by World Airways' customers in connection with their operations; specifically, the inspection procedures of its aircraft, passengers and associated cargo. In each of these instances, World Airways was in compliance with international regulations, but not the more stringent U.S. requirements, despite the fact that the flights in question did not originate or terminate in the United States. World Airways has taken steps to comply with the U.S. requirements. In September 1997, the Company entered into a consent order and settlement agreement with the FAA in connection with the above-mentioned alleged violations. Pursuant to this agreement, the Company is liable for the sum of $610,000, of which $405,000 was paid in September. The remaining $205,000 was suspended and will be forgiven if the Company complies with the provisions of the settlement agreement, including not incurring any security violations during the one year period following the execution of the settlement agreement. While World Airways believes it is currently in compliance in all material respects with all appropriate standards and has all required licenses and authorities, any material non-compliance by World Airways therewith or the revocation or suspension of licenses or authorities could have a material adverse effect on the financial condition or results of operations of World Airways. In connection with the discontinuance of World Airways' scheduled service operations, it is subject to claims by various third parties and may be subject to further claims in the future. One claim has been filed in connection with its discontinuance of scheduled service to South Africa, seeking approximately $37.8 million in compensatory and punitive damages, has been settled by the parties for approximately $0.7 million. Also, a claim has been filed in Germany against World Airways by a tour operator seeking approximately $3.5 million in compensation related to the cancellation of a summer program in 1996. World Airways believes it has substantial defenses to this action, although no assurance can be given of the eventual outcome of this litigation. In addition, the Company is party to routine litigation and administrative proceedings incidental to its business, none of which is believed by the Company to be likely to have a material adverse effect on the financial condition of the Company. Employees The Company employs four individuals. The majority of its administrative requirements are performed by employees of World Airways. The Company is charged an appropriate monthly fee for these services. World Airways' cockpit crew members, who are represented by the International Brotherhood of Teamsters (the "Teamsters"), are subject to a four-year collective bargaining agreement that will become amendable in July 1998. Approximately 37% of World Airways' employees are covered under the collective bargaining agreement. World Airways expects to begin negotiations in April 1998 and cannot predict the outcome of the negotiations or their possible impact on World Airways' financial condition and results of operations. World Airways' flight attendants, who are also represented by the Teamsters, are subject to a four-year collective bargaining agreement that will expire in August 2000. World Airways' flight attendants argued the "scope clause" of the collective bargaining agreement had been violated by World Airways and challenged the use of foreign flight attendant crews on World Airways' flights for Malaysian Airlines and Garuda Indonesia which has historically been World Airways' operating procedure. World Airways is contractually obligated to permit its Southeast Asian customers to deploy their own flight attendants. While the arbitrator in this matter denied in 1997 the union's request for back pay to affected flight attendants for flying relating to the 1994 Hadj, the arbitrator concluded that World Airways' contract with its flight attendants requires World Airways to first actively seek profitable business opportunities that require using World Airways' flight attendants, before World Airways may accept wet lease business opportunities that use the flight attendants of World Airways' customers. Subsequently, in 1997, the flight attendants challenged and filed "scope clause" grievances with respect to four separate wet-lease contracts. World Airways and the Teamsters are presently in discussions regarding these grievances. At this time, however, World Airways can give no assurance that these discussions will be successful and the grievances will not be submitted to formal arbitration. World Airways can provide no assurances as to how the resolution of this matter will affect World Airways' financial condition and results of operations. World Airways' aircraft dispatchers are represented by the Transport Workers Union (the "TWU"). This contract became amendable on June 30, 1993. In May 1995, the parties reached agreement with respect to a new four-year contract. This contract was ratified in February 1996. Fewer than 12 World Airways employees are covered by this collective bargaining agreement. World Airways is unable to predict whether any of its employees not currently represented by a labor union will elect to be represented by a labor union or collective bargaining unit. The election by such employees of representation in such an organization could result in employee compensation and working condition demands that could have a material adverse effect on the financial results of World Airways. Dividend Policy WorldCorp has never paid any dividends and does not plan to do so for the foreseeable future. The Indenture governing the Notes, and the Indenture governing the Company's Debentures, in certain circumstances, restrict the Company from paying dividends or making distributions on its common stock. As a holding company, all of WorldCorp's funds are generated through its positions in World Airways and InteliData, neither of whom intend to pay dividends in the foreseeable future. In addition, World Airways' ability to pay dividends is currently restricted under a borrowing arrangement. Also, see Note 23 "Subsequent Event" of the Company's "Notes to Consolidated Financial Statements" in Item 8. Income Taxes As of December 31, 1997, the Company has net operating loss carryforwards ("NOLs") for federal income tax purposes of approximately $63.0 million. There can be no assurance that the operations of the Company will generate taxable income in future years so as to allow the Company to realize a tax benefit from its net operating loss carryforwards ("NOLs"). The NOLs are subject to examination by the IRS and thus, are subject to adjustment or disallowance resulting from any such IRS examination. In addition, an ownership change of the Company, as defined in the Internal Revenue Code, may occur in the future and may result in the imposition of a lower annual limitation on the Company's NOLs existing at the time of any such ownership change. As a result of certain transactions with MHS in 1994, World Airways is no longer consolidated with the Company for income tax purposes. As of December 31, 1997, World Airways had NOLs for federal income tax purposes of $92.2 million, which is only available to offset future federal taxable income of World Airways. Of this amount, $27.8 million is subject to a $6.9 million annual limitation resulting from an ownership change, pursuant to the Internal Revenue Code of 1986, as amended, which occurred in 1991. In addition, future transactions in the stock of the Company, World Airways or World Airways' stockholders could cause an additional ownership change at World Airways, which could result in a substantial reduction in the annual limitation in the use of World Airways' NOLs and the loss of a substantial portion of the NOLs available to World Airways. Year 2000 The Company has begun a comprehensive review of its computer system to identify the systems that could be affected by the "Year 2000" issue and is developing an implementation plan to resolve the issue. The Year 2000 problem is the result of computer programs being written using two digits rather than four to define the applicable year. Any of the Company's programs that have time-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in a major system failure or miscalculations. The Company presently believes that, with modifications to existing software and converting to new software, the Year 2000 problem will not pose significant operational problems for the Company's computer systems as so modified and converted. However, if such modifications and conversion are not completed timely, the Year 2000 problem may have a material impact on the operations of the Company. The Company has not yet estimated the cost of modifying its computer systems. Effects Of New Accounting Standards In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130 (FAS No. 130), "Reporting Comprehensive Income". FAS No. 130 established standards for the reporting and display of comprehensive income and its components in the financial statements. The Company is required to adopt the provisions of this Statement for fiscal years beginning after December 15, 1997. Earlier application is permitted, however, upon adoption the Company will be required to reclassify previously reported annual and interim financial statements. The Company believes that the disclosure of comprehensive income in accordance with the provisions of FAS No. 130 will not materially impact the manner of presentation of its financial statements as currently and previously reported. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131 (FAS No. 131), "Disclosure about Segments of an Enterprise and Related Information". FAS No. 131 requires the Company to present certain information about operating segments and related information, including geographic and major customer data, in its annual financial statements and in condensed financial statements for interim periods. The Company is required to adopt the provisions of this Statement for fiscal years beginning after December 15, 1997. Earlier application is permitted, however, upon adoption the Company will be required to restate previously reported annual segment and related information in accordance with the provisions of FAS No. 131. The Company has not completed its analysis of the impact on the financial statements that will be caused by the adoption of this Statement. Inflation The Company believes that inflation has not had a material effect on the Company's revenues during the past three years. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA WORLDCORP, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS ASSETS (in thousands) December 31, ------------ 1997 1996 ---- ---- CURRENT ASSETS Cash and cash equivalents, including restricted cash of $447 at December 31, 1996 (Note 21) $ 4,659 $ 12,462 Restricted cash and short-term investments (Notes 8, 12 and 21) -- 2,047 Trade accounts receivable, less allowance for doubtful accounts of $413 at December 31, 1996 (Note 12) -- 15,460 Other receivables 214 4,667 Due from affiliate, net (Note 6) -- 5,548 Prepaid expenses and other current assets (Notes 9 and 20) 57 8,314 Assets held for sale (Notes 10 and 13) -- 500 ----- ------ Total current assets 4,930 48,998 ----- ------ ASSETS HELD FOR SALE (Notes 10 and 13) -- 3,425 EQUIPMENT AND PROPERTY (Notes 10 and 13) Flight and other equipment 3,114 75,191 Equipment under capital leases 173 11,639 ----- ------ 3,287 86,830 Less accumulated depreciation and amortization 3,026 21,357 ----- ------ Net equipment and property 261 65,473 ----- ------ LONG-TERM OPERATING DEPOSITS (Note 13) -- 15,951 INVESTMENT IN AFFILIATES (Notes 4 and 5) 8,344 36,299 OTHER ASSETS AND DEFERRED CHARGES, NET (Notes 5, 6, 9 and 20) 2,454 5,145 INTANGIBLE ASSETS, NET (Note 11) 843 1,072 ------ ------- TOTAL ASSETS $ 16,832 $ 176,363 ====== ======= (Continued) WORLDCORP, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (continued) LIABILITIES AND COMMON STOCKHOLDERS' DEFICIT (in thousands except share data) December 31, ------------ 1997 1996 ---- ---- CURRENT LIABILITIES Notes payable (Note 12) $ -- $ 26,386 Current maturities of long-term obligations (Note 13) 9,626 9,990 Accounts payable 187 23,939 Due to affiliate, net (Notes 4 and 6) 259 1,767 Net liabilities of discontinued operations (Note 3) -- 1,834 Unearned revenue -- 3,046 Accrued maintenance in excess of reserves paid -- 9,770 Accrued salaries and wages (Note 20) 610 10,344 Accrued interest 818 981 Accrued taxes 99 1,249 ------ ------ Total current liabilities 11,599 89,306 ------ ------- LONG-TERM OBLIGATIONS, NET (Note 13) 65,000 104,804 ------ ------- OTHER LIABILITIES Deferred gain from sale leaseback transactions, net of accumulated amortization of $19,099 as of December 31, 1996 -- 6,252 Accrued postretirement benefits (Note 16) -- 2,545 Accrued maintenance in excess of reserves paid -- 6,867 Other 163 3,378 ------ ------- Total other liabilities 163 19,042 ------ ------- TOTAL LIABILITIES 76,762 213,152 ------ ------- MINORITY INTEREST (Notes 4 and 6) -- 3,548 COMMON STOCKHOLDERS' DEFICIT (Notes 5, 12, 13, 14, 15, 16 and 20) Common stock, $1 par value, (60,000,000 shares authorized, 16,642,511 shares issued and 13,883,243 shares outstanding at December 31, 1997 and 16,420,350 shares issued and 15,020,265 shares outstanding at December 31, 1996) 16,643 16,617 Additional paid-in capital 43,966 43,824 Deferred compensation (25) (591) Unrealized gain on investments of affilates 125 -- Accumulated deficit (110,494) (91,366) ESOP guaranteed bank loan (Notes 13 and 16) -- (805) Treasury stock, at cost (2,759,266 and 1,596,766 shares in 1997 and 1996, respectively) (Notes 1, 4 and 16) (10,145) (8,016) -------- -------- TOTAL COMMON STOCKHOLDERS' DEFICIT (59,930) (40,337) -------- -------- COMMITMENTS AND CONTINGENCIES (Notes 2, 3, 4, 6, 12, 13, 15, 16, 18, 19 and 21) TOTAL LIABILITIES AND COMMON STOCKHOLDERS' DEFICIT $ 16,832 $ 176,363 ========= ======= See accompanying Notes to Consolidated Financial Statements WORLDCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (in thousands except share data) Years ended December 31, ------------------------ 1997 1996 1995 ---- ---- ---- OPERATING REVENUES (Note 19) World Airways $ 216,092 $ 309,587 $ 242,386 InteliData -- 4,085 4,186 ------- ------- ------- Total operating revenues 216,092 313,672 246,572 ------- ------- ------- OPERATING EXPENSES World Airways: Flight 47,892 71,121 65,223 Maintenance (Notes 6, 13 and 21) 44,698 60,462 41,843 Aircraft costs (Notes 6 and 13) 65,046 85,227 67,331 Fuel 10,660 19,255 16,704 Flight operations subcontracted to other carriers 2,367 12,932 9,096 Promotions, sales and commissions 6,919 6,236 1,995 Depreciation and amortization 5,795 8,032 6,056 General and administrative 17,818 24,677 18,240 ------ ------ ------ Total operating expenses - World Airways 201,195 287,942 226,488 ------- ------- ------- InteliData: Total operating expenses - InteliData -- 19,190 9,457 ------- ------ ----- WorldCorp: General and administrative 2,198 3,803 4,334 ------- ----- ----- Total operating expenses 203,393 310,935 240,279 ------- ------- ------- OPERATING INCOME 12,699 2,737 6,293 ------ ----- ----- OTHER INCOME (EXPENSE) Interest expense (Notes 12 and 13) (9,575) (11,680) (12,586) Interest income 931 3,389 2,909 Equity in earnings (loss) of affiliates, net (Notes 4 and 5) (26,975) (23,273) -- Gain (loss) on issuances (purchases) of equity by affiliates, net (Notes 4 and 5) (8,726) 38,886 43,676 Gain on sales of subsidiaries' stock (Notes 4 and 5) 17,615 -- 23,717 Other, net 31 (1,550) 1,676 ------- ------ ----- Total other income (expense), net (26,699) 5,772 59,392 ------- ----- ------ EARNINGS (LOSS) FROM CONTINUING OPERATIONS BEFORE INCOME TAXES AND MINORITY INTEREST (14,000) 8,509 65,685 INCOME TAX EXPENSE (Note 18) (350) (504) (661) MINORITY INTEREST (4,778) (568) (866) ------ ---- ---- EARNINGS (LOSS) FROM CONTINUING OPERATIONS (19,128) 7,437 64,158 DISCONTINUED OPERATIONS (Note 3) Loss from discontinued operations (less applicable income tax benefit of $83 in 1996) -- (11,720) (5,250) Loss on disposal (less applicable income tax benefit of $562 in 1996) -- (20,655) -- ------ ------- -------- LOSS FROM DISCONTINUED OPERATIONS BEFORE MINORITY INTEREST -- (32,375) (5,250) MINORITY INTEREST -- 13,184 1,300 ------- ------ ----- LOSS FROM DISCONTINUED OPERATIONS -- (19,191) (3,950) ------- ------- ------ NET EARNINGS (LOSS) $(19,128) $ (11,754) $ 60,208 ======== ========= ========= (Continued) WORLDCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (Continued) Years ended December 31, ------------------------ 1997 1996 1995 ---- ---- ---- BASIC EARNINGS (LOSS) PER SHARE (Note 17) Continuing operations $ (1.29) $ 0.46 $ 4.01 Discontinued operations -- (1.19) (0.24) ----- ----- ----- Net earnings (loss) $ (1.29) $ (0.73) $ 3.77 ========== ========= ========== WEIGHTED AVERAGE SHARES OUTSTANDING 14,804,356 16,153,227 15,988,365 ========== ========== ========== DILUTED EARNINGS (LOSS) PER SHARE (Note 17) Continuing operations $ * $ * $ 2.99 Discontinued operations * * (0.17) ---------- ---------- ----- Net earnings (loss) $ * $ * $ 2.82 =========== =========== ========== DILUTED WEIGHTED AVERAGE SHARES OUTSTANDING * * 22,994,866 =========== =========== ========== * Amounts are anti-dilutive. See accompanying Notes to Consolidated Financial Statements WORLDCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN COMMON STOCKHOLDERS' DEFICIT Years Ended December 31, 1997, 1996, and 1995 (in thousands except share data)
Employee Unrealized Stock Owner- Total Additional Gain/Loss on ship Plan Treasury Common Common Paid-in Deferred Investments of Accumulated Guaranteed Stock, Stockholders' Stock Capital Compensation Affiliates Deficit Bank Loan at cost Deficit ----- ------- ------------ ---------- ------- --------- ------- ------- BALANCE AT DECEMBER 31, 1994 $ 15,492 $37,563 $ (1,102) $ -- $(139,806) $ -- $ (340) $(88,193) Exercise of 559,568 options and warrants (Notes 14 and 15) 560 2,503 -- -- -- -- -- 3,063 Employee Stock Ownership Plan guaranteed bank loan -- -- -- -- -- (1,370) -- (1,370) Grant of stock options -- 615 (615) -- -- -- -- -- Amortization of deferred compensation -- (260) 1,164 -- -- -- -- 904 Issuance of stock (Note 5) 302 1,789 -- -- -- -- -- 2,091 Net earnings -- -- -- -- 60,208 -- -- 60,208 ------ ------ ------ ------ -------- ------ ------ ------ BALANCE AT DECEMBER 31, 1995 $ 16,354 $42,210 $ (553) $ -- $ (79,598) $ (1,370) $ (340) $(23,297) Exercise of 254,456 options and warrants 254 1,245 -- -- -- -- -- 1,499 Employee Stock Ownership Plan guaranteed bank loan (Note 16) -- -- -- -- -- 565 -- 565 Grant of stock options and warrants (Notes 13 and 14) 9 594 (200) -- -- -- -- 403 Amortization of deferred compensation -- (225) 162 -- -- -- -- (63) Purchase of common stock, at cost (Note 1) -- -- -- -- -- -- (7,676) (7,676) Other -- -- -- -- (14) -- -- (14) Net loss -- -- -- -- (11,754) -- -- (11,754) ------ ------ ------ ------ ------- ------ ------ ------- BALANCE AT DECEMBER 31, 1996 $ 16,617 $43,824 $ (591) $ -- $(91,366) $ (805) $ (8,016) $(40,337) Issuance of stock (Note 20) 26 55 -- -- -- -- -- 81 World Airways Employee Stock Ownership Plan guaranteed bank loan (Note 16) -- -- -- -- -- 805 -- 805 Amortization of deferred compensation -- -- 73 -- -- -- -- 73 Cancellation of options previously granted -- (676) 493 -- -- -- -- (183) Grant of warrants (Note 13) -- 231 -- -- -- -- -- 231 Purchase of common stock, at cost (Note 1) -- -- -- -- -- -- (2,129) (2,129) Unrealized gain/loss on investments of affiliates -- -- -- 125 -- -- -- 125 Cancellation of accrued stock options by affiliate -- 532 -- -- -- -- -- 532 Net loss -- -- -- -- (19,128) -- -- (19,128) ------ ------ ------ ------ ------- ----- ------- ------- BALANCE AT DECEMBER 31, 1997 $ 16,643 $43,966 $ (25) $ 125 $(110,494) -- $(10,145) $(59,930) ========= ======= ======= ========== ========= ===== ======== ========
See accompanying Notes to Consolidated Financial Statements WORLDCORP, INC. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (in thousands) Years ended December 31, ------------------------ 1997 1996 1995 ---- ---- ---- CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR (Note 7) $ 12,462 $ 74,443 $ 8,160 CASH FLOWS FROM OPERATING ACTIVITIES Net earnings (loss) (19,128) (11,754) 60,208 Adjustments to reconcile net earnings (loss) to cash provided (used) by operating activities: Depreciation and amortization 6,251 10,361 8,043 Deferred gain recognition (704) (1,058) (1,063) Deferred aircraft rent payments, net -- -- 153 Loss (gain) on purchases (issuances) of equity by affilates, net 8,726 (38,886) (43,676) Gain on sales of subsidiaries' stock (17,615) -- (23,717) Minority interest in earnings (loss) of subsidiaries 4,778 (12,616) (434) Equity in (earnings) loss of affiliates, net 26,975 23,273 -- Equity loss in investee of subsidiary -- 1,641 -- Gain on sale of equipment and property (299) (32) (462) Writedown of assets held for sale -- 400 -- Deferred compensation expense 566 162 904 Loss on disposal of discontinued operations -- 1,734 -- Other 468 870 570 Changes in certain assets and liabilities, net of effects of non-cash transactions: Decrease (increase) in accounts receivable 8,078 (10,607) (11,013) Decrease (increase) in restricted short-term investments 941 (2,171) (3,550) Decrease (increase) in deposits, prepaid expenses and other assets 3,654 399 (3,528) (Decrease) increase in accounts payable, accrued expenses and other liabilities (391) 22,195 11,500 Increase (decrease) in unearned revenue 1,693 (7,206) 4,806 (Decrease) increase in air traffic liability -- (2,073) 2,332 ------ ------ ----- Net cash provided (used) by operating activities 23,993 (25,368) 1,073 ------ ------- ----- CASH FLOWS FROM INVESTING ACTIVITIES Additions to equipment and property (4,166) (12,620) (24,286) Proceeds from disposal of equipment and property 946 735 1,768 Purchase of investments -- (1,345) (219) Cash of InteliData at date of Merger -- (12,800) -- Cash of World Airways at Purchase (58,050) -- -- ------- -------- -------- Net cash used by investing activities (61,270) (26,030) (22,737) ------- ------- ------- CASH FLOWS FROM FINANCING ACTIVITIES (Decrease) increase in line of credit borrowing arrangement, net (12,226) 5,031 (1,051) Issuance of debt 50,000 47,144 25,278 Repayment of debt (27,135) (51,172) (33,187) Proceeds from stock transactions -- 1,499 4,353 Proceeds from sales of equity by subsidiaries -- 2,177 64,453 Proceeds from sales of subsidiaries' stock, net 23,687 -- 28,986 Purchase of common stock (2,129) (7,676) -- Purchase of common stock of subsidiary (476) (7,361) -- Debt issuance costs (2,247) (225) -- Payment of dividends by subsidiary -- -- (885) ------- -------- ---- Net cash (used) provided by financing activities 29,474 (10,583) 87,947 ------ ------- ------ NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (7,803) (61,981) 66,283 ------ ------- ------ CASH AND CASH EQUIVALENTS AT END OF YEAR (Note 7) $ 4,659 $ 12,462 $ 74,443 ========= ========== ========== See accompanying Notes to Consolidated Financial Statements WORLDCORP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Organization WorldCorp, Inc. ("WorldCorp" or "the Company") was organized in March 1987 to serve as the holding company for World Airways, Inc., ("World Airways"). WorldCorp owns positions in companies that operate in two distinct business areas. World Airways provides worldwide passenger and cargo air transportation to major international airlines, the U.S. Air Force, and international tour operators, with a fleet of MD-11 and DC10-30 aircraft. InteliData Technologies Corporation ("InteliData") concentrates on two markets: telecommunications and electronic commerce. WorldCorp has an ownership interest in World Airways, a leading provider of long range passenger and cargo air transportation, serving customers in three distinct markets: major international air carriers; the U.S. Government and international tour operators in leisure passenger markets. World Airways' business relies heavily on its contracts with Malaysian Airline System Berhad ("Malaysian Airlines"), P.T. Garuda Indonesia ("Garuda") and the U.S. Air Force (see Note 19). On August 26, 1997, World Airways completed a private offering, issuing $50.0 million of 8% convertible senior subordinated debentures (the "Debentures") due in 2004 (the "Offering"). The Debentures were subsequently registered with the Securities and Exchange Commission. The Debentures are unsecured obligations, convertible into shares of World Airways common stock at $8.90 per share, subject to adjustment in certain events, and subordinated to all present and future senior indebtedness of World Airways. In the event of a change in control of World Airways, as defined, the holders of the Debentures could require World Airways to repurchase the outstanding Debentures. The Debentures are not redeemable by World Airways prior to August 26, 2000. In connection with the Offering, and pursuant to an agreement entered into on August 20, 1997,World Airways purchased 3,227,000 shares of its common stock from WorldCorp on September 18, 1997, for approximately $24.7 million (the "Purchase"). Therefore, at December 31, 1997, WorldCorp owned approximately 46.3% of World Airways. In accordance with a shareholders agreement, dated as of February 3, 1994, as amended, among WorldCorp, MHS Berhad ("MHS") and World Airways, if WorldCorp were to dispose of its holdings in World Airways with the result that WorldCorp's ownership interest in World Airways falls below 51% of the outstanding shares of common stock, then MHS may either sell its shares to a third party or require WorldCorp to sell a pro rata number of shares held by MHS to the party purchasing WorldCorp's shares. Therefore, as a result of the Purchase, MHS had the right to sell, and accordingly sold, 773,000 shares of its World Airways common stock to World Airways (the "MHS Purchase") for approximately $5.9 million, effective January 23, 1998. Effective January 23, 1998, WorldCorp owns approximately 51.2% of World Airways. WorldCorp also has an ownership interest in InteliData, a company which is engaged in providing products and services for two primary markets: telecommunications and electronic commerce. InteliData designs, develops and markets telecommunications products including Caller ID adjuncts and integrated and smart telephones and markets small business systems to retailers and distributors. InteliData also develops products and services for financial institutions to assist in home banking and electronic bill payment initiatives. During the fourth quarter of 1997, InteliData announced its intention to sell the interactive services division which was established to provide interactive applications for use on smart telephones and other small screen devices, such as alpha-numeric pagers, Personal Communications Systems ("PCS") devices and personal digital assistants ("PDAs"). During the third quarter of 1996, the Company announced its intention to purchase up to 2.5 million shares of its publicly-traded common stock pursuant to open market transactions. During the fourth quarter of 1996, the Company purchased 1,337,500 shares of its common stock for an aggregate cost of $7.7 million. During 1997, the Company purchased an additional 1,162,500 shares of its common stock for an aggregate cost of $2.1 million. WorldCorp does not intend to purchase any additional shares at this time. Principles of Consolidation The accompanying consolidated financial statements include the accounts of WorldCorp; its wholly owned subsidiaries WorldCorp Investments, Inc. and World Airways Cargo, Inc., its interest in World Airways through September 18, 1997 and its interest in InteliData through November 7, 1996. During 1997, two other wholly owned subsidiaries, World Flight Crew Services, Inc. and World Games, Inc., were dissolved. All significant intercompany balances have been eliminated. On November 7, 1996, US Order and Colonial Data Technologies Corp. ("Colonial Data") merged with and into InteliData ("Merger"). Effective with this Merger, InteliData became the successor corporation to US Order. As a result of the Merger, WorldCorp's ownership percentage in InteliData was reduced to 28.9% and, as such, beginning November 7, 1996, WorldCorp reports its share of InteliData's net assets and results of operations under the equity method of accounting. On September 18, 1997, World Airways purchased 3,227,000 shares of its common stock from the Company for approximately $24.7 million in cash. As a result of the Purchase, the Company's ownership percentage in World Airways was reduced to 46.3% and, as such, beginning September 18, 1997, WorldCorp reports its share of World Airways' net assets and results of operations under the equity method of accounting. Effective January 23, 1998, MHS sold 773,000 shares of its World Airways common stock to World Airways (see Note 6) for approximately $5.9 million. Therefore, effective January 23, 1998, WorldCorp owns approximately 51.2% of World Airways. 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. Cash Equivalents For purposes of the Statements of Cash Flows, the Company considers all highly liquid investments purchased with an original maturity of ninety days or less to be cash equivalents. Revenue Recognition World Airways recognizes revenue as the services are provided. Earnings (Loss) Per Common Share Statement of Financial Accounting Standards No. 128, Earnings Per Share, ("FAS 128") became effective for the year ended December 31, 1997, and required restatement of previously reported earnings per share data. FAS 128 provides for the calculation of basic and diluted earnings per share. Basic earnings (loss) per common shares is computed by dividing net earnings (loss) by the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per common share also includes common equivalent shares outstanding during the period. The Company's common equivalent shares consist of stock options, convertible securities and warrants. Equipment and Property Equipment and property are stated at cost or, if acquired under capital leases, at the present value of the minimum lease payments. Provisions for depreciation and amortization of equipment and property are computed over estimated useful lives or the term of the lease, if shorter, for capital leases, by the straight-line method, with estimated salvage values of 0 - - 15%. Estimated useful lives of equipment and property are as follows: DC10 and MD-11 flight equipment 15-16 years Other equipment and property 5-10 years Deferred gains realized in connection with sale-leasebacks of aircraft and equipment are amortized over the periods of the respective leases. Aircraft Maintenance Major airframe maintenance and engine overhauls are expensed using the accrual method of accounting. The accrual method provides for estimating the cost of the initial overhaul and accruing the cost, based on an hourly rate, to the overhaul. At that time, the actual cost of overhaul is charged to the accrual, with any deficiency or excess charged or credited to expense. The cost of the next overhaul is then estimated, based on the new rate, and accrued to that overhaul, at which time the process is repeated. Certain of the World Airways' leases require it to make monthly payments to the lessor for estimated maintenance costs to be incurred. Modifications performed in response to Airworthiness Directives issued by the Federal Aviation Administration are capitalized at cost. Routine maintenance and general repairs are expensed as incurred. Assets Held for Sale Assets held for sale are recorded at the lower of cost or estimated net realizable value. Net realizable value is based on the estimated fair value (measured by using a current selling price for similar assets) less estimated selling costs. Impairment of Long-lived Assets The Company reviews its long-lived assets for impairment whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. To the extent that the future undiscounted net cash flows expected to be generated from an asset are less than the carrying amount of the asset, an impairment loss will be recognized based on the difference between the asset's carrying amount and its estimated fair market value. Intangible Assets The excess of cost over the estimated fair value of the Company's share of its affiliate's net assets at the date of acquisition is being amortized over approximately 6 years, using the straight-line method (see Note 11). Other Assets and Deferred Charges Contract enhancements, pre-operating costs and debt issuance costs are amortized on a straight line basis over certain estimated periods (see Notes 6 and 9). Income Taxes The Company computes income taxes in accordance with the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. The results of World Airways' and InteliData's operations are not included in the Company's consolidated income tax returns. Postretirement Benefits Other Than Pensions World Airways' cockpit crewmembers and eligible dependents are covered under postretirement health care benefits to age 65. World Airways accounts for the benefit costs in accordance with Statement of Financial Accounting Standards No. 106, Employers' Accounting for Postretirement Benefits Other Than Pensions ("FAS 106"). World Airways funds the benefit costs on a pay-as-you-go (cash) basis. Transactions in Subsidiaries'/Affiliates' Stock Gains or losses realized in connection with the issuance, sale or purchase of stock by a subsidiary/affiliate are recognized in income by the Company (see Notes 4 and 5). Accounting for Stock-Based Compensation Prior to January 1, 1996, the Company accounted for its stock option plan in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. As such, compensation expense would be recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. On January 1, 1996, the Company adopted SFAS No. 123, Accounting for Stock-Based Compensation ("SFAS No. 123") , which permits entities to recognize as expense over the vesting period the fair value of all stock-based awards on the date of grant. Alternatively, SFAS No. 123 also allows entities to continue to apply the provisions of APB Opinion No. 25 and provide pro forma net income and pro forma earnings per share disclosures for employee stock option grants made in 1995 and future years as if the fair-value-based method defined in SFAS No. 123 had been applied. The Company has elected to continue to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure provisions of SFAS No. 123 (see Note 15). In addition, in accordance with SFAS 123, the Company applies fair value as the measurement basis for transactions in which equity instruments are issued to nonemployees (as defined) (see Note 14). 2. OPERATING ENVIRONMENT The Company is a highly leveraged holding company. As a holding company, all of WorldCorp's funds are generated through its positions in World Airways and InteliData, which have not paid dividends on common stock since 1992. At December 31, 1997, World Airways has a working capital deficit of $1.8 million and has substantial debt and lease commitments. At December 31, 1997, InteliData has working capital of $32.4 million, with no long-term debt. World Airways' ability to pay dividends is currently restricted under certain borrowing arrangements. Additionally, World Airways and InteliData currently intend to retain their future earnings, if any, to fund the growth and development of their business and, therefore, do not anticipate paying any cash dividends in the foreseeable future. As of December 31, 1997, WorldCorp has $4.7 million in cash and cash equivalents, and has parent company repayment obligations, including principal and interest, of approximately $15.6 million for 1998. Included in this amount is $10.0 million of senior subordinated notes outstanding. Subsequent to year-end, the Company prepaid $5.0 million of the senior subordinated notes and the remaining $5.0 million may be required to be prepaid in the near term in the event the Company does not meet the minimum "Asset Value" requirement, as defined, at the end of any quarter (see Note 13). Subsequent to year-end, World Airways loaned the Company $2.0 million, which was used by WorldCorp to pay debt obligations. In order to meet its debt service obligations and its general and administrative costs, the Company must use its cash and either sell shares of World Airways or InteliData, obtain additional financing, refinance existing borrowings or obtain concessions from its lenders. WorldCorp has pledged all of its shares of World Airways and InteliData as collateral for certain borrowings (see Note 23). At December 31, 1997, based on quoted market prices, the market value of the Company's 3,702,586 shares of World Airways and 9,179,273 shares of InteliData, approximated $25.5 million and $16.9 million, respectively. Although management intends to attempt to refinance certain of its borrowings or arrange for concessions from its lenders, there can be no assurance that these efforts will be successful. As a result, substantial doubt exists regarding the Company's ability to meet its obligations in 1998 and to continue as a going concern. 3. DISCONTINUED OPERATIONS World Airways commenced its scheduled service operations between Tel Aviv and New York in July 1995 and commenced its scheduled service operations between the U.S. and South Africa in June 1996. In addition, in May 1996 World Airways commenced its scheduled charter operations between the United States and Germany, Switzerland, Ireland, and the United Kingdom. However, World Airways was unable to operate these scheduled service operations profitably. Therefore, in July 1996, World Airways announced its decision to exit its scheduled service operations by October 1996 and focus its operations on its core business: operating aircraft under contracts with international carriers, the U.S. Government, and international tour operators. Consistent with this decision, World Airways ceased all scheduled operations as of October 27, 1996. As a result, World Airways' scheduled service operations were reflected as discontinued operations as of June 30, 1996, and prior period results were restated to reflect scheduled service operations as discontinued operations. Loss from discontinued operations (net of income tax effect) approximated $11.7 million for the year ended December 31, 1996. In addition, an estimated loss on disposal of $21.0 million (net of income tax effect), which was recorded as of June 30, 1996, included the following: $13.6 million for estimated operating losses during the phase-out period; a $2.6 million estimated loss to be incurred in connection with sub-leasing DC-10 aircraft which will not be utilized in World Airways' operations subsequent to the phase-out of scheduled service operations; a $2.3 million writeoff of related leasehold improvements; and $2.0 million for passenger reprotection expenses. World Airways recognized an additional $0.5 million of expense in the fourth quarter of 1997 and believes that substantially all of the costs relating to the disposal have been incurred as of December 31, 1997. World Airways is subject to certain claims arising as a result of the discontinuance of its scheduled service operations (see Note 21), but World Airways believes it has substantial defenses to these actions. 4. INVESTMENT IN WORLD AIRWAYS On February 28, 1994, pursuant to an October 1993 agreement, the Company sold 24.9% of its 100% ownership in World Airways to MHS Berhad ("MHS"), a Malaysian aviation company. Effective December 31, 1994, WorldCorp repurchased 5% of World Airways' common stock from MHS (see Note 6). On August 8, 1995, World Airways filed a registration statement on Form S-1 with the Securities and Exchange Commission to register 2,900,000 shares of World Airways' common stock. The offering was completed on October 12, 1995 at an offering price of $12.50 per share. Of the 2,900,000 shares registered, 2,000,000 shares were issued and sold by World Airways which resulted in an $11.9 million net gain to the Company, and 900,000 shares were sold by the Company, resulting in a $4.1 million net gain. Net proceeds received from the offering by the Company and World Airways approximated $10.2 million and $22.8 million, respectively. At December 31, 1996, the Company and MHS owned approximately 61.3% and 17.6%, respectively, of the outstanding common stock of World Airways. The remaining shares were publicly traded. In the third quarter of 1996, World Airways announced its intention to purchase up to one million shares of its publicly-traded common stock pursuant to open market transactions. During the fourth quarter of 1996, World Airways purchased 718,000 shares of its common stock for an aggregate cost of $7.4 million. In January 1997, World Airways repurchased an additional 52,000 shares of its common stock for an aggregate cost of $0.5 million. World Airways does not intend to purchase any additional shares at this time. As a result of the 1996 treasury stock purchases, the Company recognized a $4.2 million loss on purchases of equity by subsidiaries. In connection with World Airways' issuance of $50.0 million of 8% convertible senior subordinated debentures on August 26, 1997, (the" Offering"), and pursuant to an agreement entered into on August 20, 1997, World Airways purchased 3,227,000 shares of its common stock from the Company on September 18, 1997 for approximately $23.7 million in cash, net of expenses incurred of approximately $1.0 million. As a result of this transaction, the Company recognized a $17.6 million gain on the sale of its common stock of World Airways, which was partially offset by a $8.7 million loss on purchases of equity by World Airways. As a result of this Purchase, the Company's ownership percentage in World Airways was reduced to 46.3%. The Company's consolidated results for the year ended December 31, 1997 include the results of World Airways for the period prior to the Purchase. Following the Purchase, the Company reports its proportionate share of World Airways' financial results using the equity method of accounting. As such, WorldCorp's investment in World Airways is included as investment in affiliates in the accompanying balance sheet at December 31, 1997. The Company's portion of World Airways' loss for the period after the Purchase approximated $0.5 million and is recorded in equity in earnings (loss) of affiliates, net in the accompanying consolidated statement of operations for the year ended December 31, 1997. The following represents summarized financial information (in thousands) for World Airways: Year ended December 31, 1997 ----------------------- Results of operations: Operating revenues $ 309,412 Operating expenses 292,555 Operating income 16,857 Earnings from continuing operations 11,967 Net earnings 11,452 At December 31, 1997 --------------- Financial position: Current assets $ 54,085 Noncurrent assets 95,063 Current liabilities 55,905 Noncurrent liabilities 98,014 5. INVESTMENT IN INTELIDATA Formation On September 10, 1990, the Board of Directors of WorldCorp unanimously authorized WorldCorp to enter into and consummate a Stock Purchase Agreement dated as of September 14, 1990 (the "Stock Purchase Agreement"), under which WorldCorp agreed to purchase Series A Preferred Stock ("the Preferred Stock") issued by US Order. The Board of Directors of the Company authorized the purchase of US Order as part of the Company's continuing efforts to diversify its interests. In connection with this agreement, the Company was granted an option to purchase the common stock held by the founding shareholders. Mr. Gorog is Chairman of the Board of InteliData and a director of WorldCorp. Mr. Gorog, together with certain members of his immediate family (the "Founders"), were majority owners of US Order. On August 25, 1994, the Company's Board of Directors approved the exercise of WorldCorp's option to purchase 4.8 million shares of US Order common stock held by the Founders. Under the terms of this agreement, prior to December 31, 1994, WorldCorp paid $0.4 million in cash to the Founders in exchange for 498,794 shares of US Order common stock, increasing WorldCorp's ownership of voting stock to 52%. Effective February 16, 1995, WorldCorp purchased the remaining 4.3 million shares of US Order common stock with 302,282 shares of WorldCorp common stock, $0.3 million in cash, and $1.1 million in the form of notes due to the Founders. These notes were paid in 1995. As a result of this option exercise, WorldCorp increased its ownership in US Order's voting stock to approximately 89% in February 1995. In August 1996, WorldCorp exercised 346,429 warrants to purchase an equivalent number of shares of US Order's common stock at $4.00 per share. Sale of Banking Operations On August 1, 1994, US Order sold its electronic banking and bill payment operations to Visa International Services Association, Inc. ("Visa") (which subsequently transferred these assets to a wholly owned subsidiary, Visa InterActive) for cash and the right to future royalty payments which are based on the number of customers utilizing the Visa Bill-Pay System. In August 1997, Integrion Financial Network ("Integrion") acquired Visa InterActive, and certain rights in the Visa Bill-Pay System, from Visa. In October 1997, InteliData surrendered the right to certain future royalty payments in exchange for $5.0 million in cash from Visa. InteliData recorded the cash payment as deferred revenue and is recognizing it into electronic commerce revenues over a two year period. Initial Public Offering In June 1995, US Order completed an initial public offering of 4,427,500 shares of its common stock at an offering price of $14.75 per share. Of the 4,427,500 shares sold, 3,062,500 were issued and sold by US Order which resulted in a gain of approximately $27.0 million to the Company, and 1,365,000 shares were sold by the Company resulting in a gain of approximately $19.6 million. Net proceeds from the offering to the Company and US Order approximated $18.7 million and $41.6 million, respectively. In conjunction with the offering, the US Order preferred stock previously held by the Company was converted to common stock. As a result of the above transactions, WorldCorp owned 56.9% of the outstanding common stock of US Order at December 31, 1995. Acquisitions On October 18, 1995, US Order acquired a 40% equity interest in Home Financial Network, Inc. ("HFN"), a newly formed, development stage personal computer software company that plans to develop and deliver electronic financial products and services to consumers, through the issuance of 296,746 shares of its common stock valued at $5.0 million. As a result, the Company recognized a $2.5 million gain on issuances of equity by subsidiaries. Effective September 30, 1996, US Order acquired the business of Braun, Simmons & Co. ("Braun Simmons"), an information engineering firm specializing in the development of home banking and electronic commerce solutions for financial institutions, for $2.0 million and 375,000 shares of US Order common stock. As a result, the Company recorded a gain on issuances of equity by subsidiary of $1.8 million as of September 30, 1996. The acquisition was accounted for under the purchase method of accounting. US Order expensed $4.9 million of the purchase price which was allocated to in-process research and development with no alternative future use. As discussed further below, based on rapid market and technological changes in 1997, the goodwill generated from this transaction was written-off in the third quarter of 1997. Colonial Data Merger On April 6, 1995, US Order entered into a stock exchange agreement with Colonial Data. Pursuant to the terms of the agreement, on June 8, 1995, US Order exchanged 230,000 shares of its common stock, valued at the initial public offering price of $14.75 per share, or $3.4 million, for 170,743 shares of Colonial Data's unregistered common stock (valued based on the average closing price of Colonial Data's stock for the twenty trading days preceding the date of the exchange) which was equivalent to the value of US Order stock exchanged. The Company recognized a gain on issuances of equity by subsidiaries of $2.0 million as a result of the exchange of this stock. The fair value of this investment at December 31, 1995 was approximately $3.5 million, based on the quoted market price of the stock, and was held for purposes other than trading. On November 7, 1996, US Order and Colonial Data were merged with and into InteliData, a newly formed corporation, through an exchange of stock ("Merger"). Upon consummation of the Merger, each outstanding share of US Order common stock was converted into one share of InteliData common stock and each outstanding share of Colonial Data common stock was converted into one share of InteliData common stock. The transaction was accounted for as a purchase of Colonial Data by US Order. Pursuant to this transaction, InteliData became the successor corporation to US Order. As a result of the Merger, WorldCorp recognized a gain on issuances of equity by subsidiaries of $42.6 million, which was offset by the elimination of approximately $1.3 million of goodwill related to US Order. As a result of the Merger, WorldCorp's ownership percentage in InteliData was reduced to 28.9% and, as such, WorldCorp began reporting its share of InteliData's net assets and results of operations under the equity method of accounting. As a result of the Merger, InteliData reported non-cash, merger related charges of approximately $72.3 million, of which the Company recorded its pro rata share, or $20.9 million. These charges related to the write-off of in-process research and development expenses for purchased in-process technology that had not reached technological feasibility as of the date of the Merger and did not have alternative future uses. The remaining $2.4 million equity in loss of affiliate for 1996 represents the Company's share of InteliData's operating results for the period following the Merger. As discussed further below, based on rapid market and technological changes in 1997, the goodwill generated from the Merger was written-off in the third quarter of 1997. Due to equity transactions by InteliData in 1997, WorldCorp's ownership percentage in InteliData was 29.4% at December 31, 1997. As such, WorldCorp's investment in InteliData is included in investment in affiliates in the accompanying balance sheets at December 31, 1997 and 1996 and its share of InteliData's losses for the periods from November 7, 1996 through December 31, 1996, and for the year ended December 31, 1997 are shown as equity in earnings (loss) of affiliates, net in the accompanying statements of operations for the years ended December 31, 1997 and 1996. During the third quarter of 1997, InteliData announced a strategic repositioning and determined that it would be appropriate to charge to operations the remaining unamortized costs of intangible assets due to impairment, adjust inventory carrying amounts to the lower of cost or market, and to reflect certain restructuring charges. The impairment was based on the excess of the carrying value of the assets over the assets' fair values. These items resulted in an aggregate charge of $69.1 million to InteliData's operations, of which the Company recorded its pro rata share, or $20.3 million. Summarized financial information of InteliData is as follows (in thousands): Year ended December 31, ----------------------- 1997 1996 ---- ---- Results of operations: Revenues $ 60,309 $ 13,899 Cost of revenues 43,514 10,448 Gross profit 16,795 3,451 Operating loss (91,304) (96,112) Net loss applicable to common shareholders (90,094) (95,727) At December 31, --------------- 1997 1996 ---- ---- Financial position: Current assets $ 47,821 $ 82,989 Noncurrent assets 6,580 60,757 Current liabilities 15,457 19,457 Noncurrent liabilities 1,875 -- Shown below is the Company's unaudited pro forma condensed consolidated results of operations for the years ended December 31, 1996 and 1995, excluding the impact of the non-recurring charges for acquired in-process research and development and the impact of the gain on issuances of equity by subsidiaries relating to the Braun Simmons and Colonial Data acquisitions and as though both companies had been acquired and merged into InteliData as of the beginning of InteliData's fiscal years 1996 and 1995 (in thousands, except for per share data): Year ended December 31, ----------------------- 1996 1995 ---- ---- Revenues $ 309,587 $ 242,386 Net income (loss) (27,252) 64,925 Net income (loss) per share: Basic (1.69) 4.06 Diluted * 3.02 * Amounts are anti-dilutive. This method of combining historical financial statements for the preparation of the unaudited pro forma condensed consolidated financial information is for presentation only. The unaudited pro forma condensed consolidated financial information is provided for illustrative purposes only and is not necessarily indicative of the consolidated financial position or consolidated results of operations that would have been reported had the Mergers occurred at the beginning of the year, nor do they represent a forecast of the consolidated financial position or results of operations for any future period. 6. TRANSACTIONS WITH MHS AND MALAYSIAN AIRLINES On October 30, 1993, WorldCorp, World Airways, and MHS entered into a Stock Purchase Agreement (the "Stock Purchase Agreement") pursuant to which MHS, subject to satisfactory completion of its due diligence investigations, agreed to purchase 24.9% of World Airways' common stock for $27.4 million in cash. Under this Agreement, World Airways would receive upon closing $12.4 million to fund its working capital requirements. The remaining $15.0 million would be paid to WorldCorp to add to its cash reserves. WorldCorp received $2.7 million prior to December 31, 1993 as an advance on the sales price. At the time of the signing of the Stock Purchase Agreement, World Airways was a wholly-owned subsidiary of WorldCorp. On February 28, 1994, WorldCorp, World Airways, and MHS concluded the transaction according to the terms described above. Under the agreement, if at any time after October 30, 1996 World Airways registers additional common stock under the Securities Act of 1933, MHS has the right to demand the registration of its shares of the Company's common stock. Under a shareholders agreement, MHS has the right to nominate two members to the Company's board of directors and WorldCorp has agreed to vote its shares of common stock to elect such nominees. Also, if without the prior written consent of MHS: (1) World Airways sells all or substantially all of its business; or (2) World Airways fundamentally changes its line of business, then MHS has the option to require WorldCorp to purchase all or part of MHS's shares at fair market value. Fair market value is defined to be not less than the aggregate of the costs borne by MHS in acquiring and holding its World Airways shares. Management of World Airways has indicated that it does not have any current intent to take any such actions without the prior consent of MHS or the directors nominated by MHS. The shareholders agreement also provides that if WorldCorp's ownership interest in World Airways falls below 51% of the outstanding shares of common stock, then MHS may either sell its shares to a third party or require WorldCorp to sell a pro rata number of shares held by MHS to the party purchasing WorldCorp's shares. MHS also has a right of first refusal to purchase shares of common stock issued by World Airways or sold by WorldCorp and to purchase additional shares of common stock to maintain its ownership percentage in World Airways. In connection with World Airways' Offering on August 26, 1997 (see Notes 1 and 13), World Airways purchased 3,227,000 shares of its common stock from WorldCorp on September 18, 1997 for approximately $24.7 million. Therefore, at December 31, 1997, MHS owned approximately 24.9% of World Airways' common stock. In accordance with the shareholders agreement, when World Airways purchased the 3,227,000 shares of common stock from WorldCorp in September 1997, MHS had the right to sell, and accordingly sold, 773,000 shares of its World Airways common stock to World Airways for approximately $5.9 million, effective January 23, 1998, thereby reducing MHS's ownership interest in World Airways to 16.8%. During 1994, MHS acquired 32% of Malaysian Airlines, the flag carrier of Malaysia. Due mainly to the issuance of additional shares of common stock by Malaysian Airlines during 1996, MHS owns 28% of Malaysian Airlines at December 31, 1997. World Airways has provided service to Malaysian Airlines since 1981, providing aircraft for integration into Malaysian Airlines' scheduled passenger, cargo and charter operations as well as transporting passengers for the annual Hadj pilgrimage. Malaysian Airlines is one of World Airways' largest customers (see Note 19). Effective December 31, 1994, WorldCorp entered into a 6% note payable to MHS in the amount of $8.5 million, due December 31, 1995, in exchange for 5% of World Airways' common stock held by MHS and the execution of certain multi-year contracts between World Airways and Malaysian Airlines. The shares were pledged as security for the note payable. The note was repaid in accordance with the agreement. Of the $8.5 million consideration paid by WorldCorp to MHS, $3.0 million was attributable to the contract enhancements discussed above. This amount is included in other assets and deferred charges and in contributed capital in the accompanying balance sheet at December 31, 1996 (see Note 9). Because WorldCorp reports its share of World Airways' net assets and results of operations under the equity method of accounting, there is no corresponding amount in the accompanying balance sheet at December 31, 1997. The amount attributable to the contract enhancements is being amortized over the terms of the related Malaysian Airlines contracts, approximately two to five years. Amortization expense for the period January 1, 1997 to September 17, 1997 approximated $0.3 million. In late 1994, World Airways entered into a series of multi-year contracts, with expiration dates ranging from 1997 to 2000, to provide aircraft to Malaysian Airlines. World Airways also entered into a 32-month agreement for year-round operations (including the Hadj) with Malaysian Airlines whereby World Airways is providing two passenger aircraft with cockpit crews, maintenance and insurance to Malaysian Airlines' newly-formed charter division through May 1999. However, in 1997, World Airways agreed to a five month reduction in the utilization of one aircraft during 1997 although that aircraft was redeployed. Malaysian Airlines has not informed World Airways of any reductions for 1998. World Airways provided three aircraft for the 1997, 1996 and 1995 Hadj operations. MAS received notice from the Malaysian Hadj Board that MAS would not participate in the 1998 Hadj pilgrimage. As a result, MAS entered into an agreement on behalf of World Airways for World Airways to provide two DC-10 aircraft to fly in the 1998 Indian Hadj. World Airways has a long-term contract to operate three MD-11 cargo aircraft for Malaysian Airlines. However, beginning in July 1996, and as mutually agreed by the parties, World Airways redeployed two cargo aircraft, which had been operating under these contracts, into another contract which ended in February 1998.World Airways and Malaysian Airlines are currently discussing the redeployment of these aircraft back into Malaysian Airlines' operations during 1998 in order to meet the contracts' original obligations. World Airways can provide no assurances, however, that World Airways will, in fact, be able to do so (see Note 19). As of December 31, 1996, World Airways had $5.5 million included in due from affiliate, in the accompanying balance sheet. Included in this balance are certain reimbursable operating costs of $0.6 million due from Malaysian Airlines incurred by World Airways pursuant to the currently operated contracts. In addition, included in the amount shown as due to affiliate in the accompanying balance sheet is $1.4 million of aircraft rent owed to Malaysian Airlines at December 31, 1996. During 1995, World Airways entered into agreements with Malaysian Airlines to lease two DC10-30 aircraft. The aircraft were delivered in June and December 1995 and had original lease terms of 26 and 36 months, respectively. The leases on the two aircraft expire in August 1999 and December 1998. In March 1996, World Airways leased two additional DC-10-30 aircraft from Malaysian Airlines. These additional aircraft were not expected to be utilized after the discontinuance of the Company's scheduled service operations in October 1996 (see Note 3). Therefore, effective December 31, 1996, the parties mutually agreed to terminate the lease agreement for the additional two aircraft. In March 1997, World Airways entered into an agreement with Malaysian Airlines to lease an incremental DC10-30 aircraft on a short-term basis to support its peak flying season. The aircraft was returned at the end of the Hadj program. Rent expense and maintenance reserve payments related to these aircraft leased from Malaysian Airlines amounted to $5.1 million, $12.6 million and $1.6 million for the period January 1, 1997 to September 17, 1997 and for the years ended December 31,1996 and 1995, respectively. 7. SUPPLEMENTAL INFORMATION -- STATEMENTS OF CASH FLOWS Additional information pertaining to certain cash payments and noncash investing and financing activities is as follows (in thousands): For the years ended December 31, -------------------------------- 1997 1996 1995 ---- ---- ---- Cash paid for: Interest $ 9,243 $ 12,377 $ 12,130 Income taxes 255 412 711 Due to the Purchase, on September 18, 1997, WorldCorp began reporting its share of World Airways' net assets and results of operations under the equity method of accounting. Therefore, only non-cash transactions relating to World Airways operations through September 17, 1997 are described herein. In 1997, World Airways entered into a capital lease, valued at $0.8 million, with a lessor to lease an auxiliary power unit over a 32 month term beginning in July 1997. World Airways made principal payments of $0.05 million between January 1 and September 17, 1997. In January 1996, World Airways agreed to purchase an additional engine and received a commitment from the engine manufacturer to finance 85% of its purchase price over a seven-year term (see Note 13). In June 1997, World Airways took delivery of the engine and signed a note for $6.3 million, of which $0.1 million was repaid between January 1, 1997 and September 17, 1997. World Airways purchased a spare engine which was delivered in March 1996. The engine cost approximately $8.0 million. World Airways entered into an agreement with the engine's manufacturer to finance 80% of the purchase price over a seven-year term (see Note 13).World Airways made payments of $0.4 million, $0.4 million and $1.2 million towards this purchase during the period January 1, 1997 to September 17, 1997 and for the years ended December 31, 1996 and 1995, respectively. In March 1996, World Airways entered into an agreement with McDonnell Douglas to lease two MD-11ER aircraft (see Note 13). World Airways entered into a simultaneous agreement with McDonnell Douglas to finance MD-11 spare parts. World Airways can borrow a total of $9.0 million of which $3.0 million became available with the delivery of each aircraft and an additional $3.0 million became available in December 1996. Borrowings under the agreement were $1.5 million and $6.4 million during the period January 1, 1997 to September 17, 1997 and for the year ended December 31, 1996, respectively, and payments of $0.7 million and $0.5 million were made in these periods, respectively. 8. SHORT-TERM INVESTMENTS At December 31, 1996, short-term investments consist of cash pledged as collateral for letters of credit with original maturities in excess of ninety days, and expiration dates within one year, and cash collateralizing a loan with a financial institution (see Note 12). 9. OTHER ASSETS AND DEFERRED CHARGES Other assets and deferred charges consist of the following (in thousands): December 31, ------------ 1997 1996 ---- ---- Debt issuance costs, net $ 1,417 $ 1,763 Long-term notes receivable (Note 20) 787 529 Deferred contract cost (Note 6) -- 1,509 Aircraft integration costs, net -- 1,094 Long-term investment 250 250 --- --- $ 2,454 $ 5,145 ============ =========== Debt issuance costs consist of the costs of issuing the Convertible Subordinated Debentures due 2004 and are being amortized over the term of the debt instrument using the effective interest method (see Note 13). The debt issuance costs relating to the Bridge Loan due in 1997 (see Note 12) were included in the accompanying balance sheet at December 31, 1996, but were fully amortized when the loan was paid off in 1997. Aircraft integration costs consist of pre-operating costs incurred in connection with integrating the new MD-11 aircraft into World Airways' fleet (see Note 13). These costs, consisting primarily of flight crew training, are being amortized on a straight-line basis over a five-year period. Long-term investment consists of an investment in a company which is accounted for under the cost basis method. Prepaid expenses and other current assets at December 31, 1997 consists of prepaid insurance. At December 31, 1996, prepaid expenses also included World Airways' prepaid insurance of approximately $4.9 million and prepaid rent of approximately $2.5 million. World Airways' prepaid expenses and aircraft integration costs, net are not included in the December 31, 1997 balance sheet due to the change in WorldCorp's accounting for its investment in World Airways to the equity method on September 18, 1997 as a result of the Purchase. 10. ASSETS HELD FOR SALE Assets held for sale consisted primarily of DC10 and B727 rotables with a net book value of $3.9 million as of December 31, 1996. World Airways has consigned these parts with a third party to be sold over a reasonable period of time with the objective of maximizing the proceeds from the sales. As a result of the discontinuance of World Airways' scheduled service operations in 1996 (see Note 3), and the termination of two DC10 lease agreements in December 1996 (see Note 6), World Airways consigned additional DC10 rotables with the third party during 1997. Accordingly, the net book value of these parts of $1.7 million was reclassified from flight and other equipment to assets held for sale in the accompanying balance sheet at December 31, 1996. During the fourth quarters of 1997 and 1996, World Airways wrote-down assets held for sale by $0.5 million and $0.4 million, respectively, to reflect the estimated fair value of the parts less estimated selling costs. As a result of the Purchase on September 18, 1997, WorldCorp began reporting its share of World Airways' net assets and results of operation under the equity method of accounting. Therefore, there is no balance in assets held for sale in the accompanying balance sheet at December 31, 1997. During the third quarter of 1997, WorldCorp recognized a $0.3 million gain on its sale of the remaining B727 rotables to the third party, which is included in other income in the accompanying statement of operations for the year ended December 31, 1997. 11. INTANGIBLE ASSETS As a result of various transactions in the capital stock of US Order through 1995, the Company recorded approximately $5.2 million of goodwill, which is being amortized over approximately six years using the straight-line method. As a result of the sale of a portion of its stock of US Order pursuant to US Order's initial public offering during 1995, approximately $1.9 million of this goodwill was eliminated and offset against the gain on sale of stock. As a result of the merger of US Order and Colonial Data with and into InteliData during 1996, approximately $1.3 million of goodwill was eliminated and offset against the gain on issuances of equity by affiliates (see Note 5). 12. NOTES PAYABLE In 1993, World Airways entered into an $8.0 million revolving line of credit borrowing arrangement which is collateralized by certain receivables which were sold to the bank with recourse. Borrowing availability under the line is based on the amount of eligible receivables. This borrowing arrangement was amended effective June 30, 1996 (see Note 13). At December 31, 1996, World Airways had minimal unused borrowing capacity and borrowings under the line of credit were $6.8 million. Upon completion of the Offering (see Notes 1 and 13),World Airways repaid the outstanding balance on the line. Therefore, at December 31, 1997, there was no outstanding balance or borrowing capacity on the revolving line of credit. Subsequent to December 31, 1997, World Airways amended its Credit Agreement with BNY Financial Corporation ("BNY"). The amended line has a borrowing capacity of up to $25.0 million, subject to borrowing base amounts related to receivables and spare parts inventory, as defined. The amended arrangement contains certain dividend restrictions and certain covenants related to World Airways' financial condition and operating results, including quarterly net worth and net income (loss) requirements and debt coverage requirements. Borrowings under this amended Credit Agreement are collateralized by certain receivables, inventory, and equipment. A $4.6 million note bearing interest at 3.8% is included in notes payable at December 31, 1996. The note was fully paid during 1997. On August 29, 1996, the Company entered into a bridge loan (the "Bridge Loan") with a financial institution pursuant to which the Company borrowed $25.0 million and subsequently retired its existing 13 7/8% Subordinated Notes of the same amount. The Bridge Loan was due September 29, 1997 and earned interest of LIBOR plus 2.5%, payable monthly. On September 30, 1996, the Company entered into a purchase agreement (the "Purchase Agreement") which contained a series of Senior Subordinated Notes ("Notes") totaling $10.0 million which was used to retire $10.0 million of the Bridge Loan in October 1996 (See Note 13). The remaining balance on the Bridge Loan of $15.0 million was repaid in September 1997. In the first quarter of 1997, WorldCorp entered into a $1.0 million margin loan with Scott & Stringfellow, Inc., whereby WorldCorp pledged approximately 400,000 shares of InteliData common stock which WorldCorp owns as collateral for such loan (the "Margin Loan"). The Company did not draw any funds on the loan and the InteliData shares have been returned to WorldCorp. 13. LONG-TERM OBLIGATIONS Long-Term Debt Long-term obligations of the Company at December 31 are as follows (in thousands): 1997 1996 ---- ---- WorldCorp: Senior Subordinated Notes -- with interest at 10% payable semi-annually beginning March 31, 1997 (net of unamortized discount of $0.4 million and $0.3 million at December 31, 1997 and 1996, respectively) (Note 12). 9,603 9,675 Convertible Subordinated Debentures due 2004 -- with interest at 7% payable semi-annually beginning May 15, 1992. 65,000 65,000 Unsecured promissory note due 1997 -- with interest at 6% payable quarterly beginning May 8, 1994. -- 900 Capitalized lease obligations 23 67 World Airways: Note payable due 1999 -- with principal and interest at 7.25% payable monthly, collateralized by one Pratt & Whitney PW4462 engine. $ -- $ 4,393 Note payable due 2003 -- with principal and interest at 9.98% payable monthly, collateralized by one Pratt and Whitney PW4462 engine. -- 6,018 Spare parts loan due 1998 -- with principal and interest at 8.5% payable monthly, collateralized by certain MD-11 spare parts. -- 3,229 Spare parts loan due 2003 -- with principal and interest at 8.5% payable monthly collateralized by certain MD-11 spare parts. -- 2,581 Spare parts loan due 2003 -- with principal and interest at 10% payable monthly, collateralized by certain MD-11 spare parts. -- 5,929 Aircraft spare parts security agreement payable to bank due 1999, net ofdiscount of $0.2 million -- with interest at the greater of the federal funds rate plus 2.5% or the prime rate plus 2% (10.25% at December 31, 1996),collateralized by certain rotables. -- 7,372 Employee Saving and Stock Ownership Plan guaranteed bank loan (Note 16) -- 805 Capitalized lease obligations -- 7,683 Deferred aircraft rent -- 1,142 ------ ----- Total 74,626 114,794 Less current maturities 9,626 9,990 ----- ----- Total long-term obligations, net $ 65,000 $ 104,804 ========== ========== The estimated fair value of the Convertible Subordinated Debentures at December 31, 1997 approximated $26.9 million. The Company believes that the carrying values of the other amounts outstanding under the above debt agreements approximate fair value. In May 1992, the Company issued $65.0 million of Convertible Subordinated Debentures due 2004 (the "WorldCorp Debentures"). The WorldCorp Debentures are convertible into WorldCorp common stock at $11.06 per share, subject to adjustment in certain events, and bear an annual interest rate of 7%. Semi-annual interest payments are due on May 15 and November 15. The terms of this indenture cause World Airways not to pay dividends upon the occurrence of any events of default by the Company under the indenture. The indenture also restricts the Company's ability to pay dividends or make other distributions on its common stock. On August 29, 1996, the Company entered into a bridge loan (the "Bridge Loan") with a financial institution pursuant to which the Company borrowed $25.0 million and subsequently retired its existing 13 7/8% Subordinated Notes of the same amount (see Note 12). The Company entered into a purchase agreement (the "Purchase Agreement") on September 30, 1996 which contained a series of Senior Subordinated Notes totaling $10.0 million which was used to retire $10.0 million of the Bridge Loan in October 1996. The Notes are payable in three installments through September 2000 and earn interest of 10%, payable semi-annually. Sinking fund payments equal to 20% of the then outstanding principal balance are required to be made on each of September 30, 1998 and September 30, 1999. In connection with the Purchase Agreement, the Company granted warrants to the lenders to purchase up to 120,000 shares of the Company's common stock, at $6.00 per share, subject to certain adjustments. The Company may also be required to issue up to an additional 80,000 warrants contingent upon certain market conditions. These warrants were valued at approximately $0.6 million (see Note 14). Under the terms of the Purchase Agreement, the Company is not permitted to pay cash dividends. Also, WorldCorp is obligated under certain conditions to make certain mandatory prepayments of the Notes. The Purchase Agreement states that if the Asset Value, as defined, at the end of any fiscal quarter is less than $70.0 million, then WorldCorp shall prepay 50% of each of the outstanding Notes within 60 days of the end of such fiscal quarter. If the Asset Value at the end of any fiscal quarter is less than $50.0 million, then WorldCorp shall prepay all of the outstanding Notes within 60 days of the end of such fiscal quarter. If WorldCorp sells any shares of common stock of InteliData, 20% of the net proceeds received by WorldCorp upon such sale must be used to prepay the then outstanding Notes within 30 days. "Asset Value" is defined to mean (i) the market value of the common stock of World Airways and InteliData beneficially owned by the Company and the common stock of any other subsidiary of the Company beneficially owned by the Company which is listed on an exchange or quoted on the NASDAQ National Market plus (ii) the value of all other tangible assets of the Company. Also under the Purchase Agreement, Senior Indebtedness of the Company shall not exceed $50.0 million. As of December 31, 1997, the Asset Value was $56.8 million. Therefore, subsequent to year end, the Company prepaid $5.0 million of the Notes. The Company may not meet the $50.0 million Asset Value requirement as of March 31, 1998, in which event, the Company would be required to prepay the remaining $5.0 million outstanding under the Notes. The Company has classified the outstanding balance of the Notes as a current liability as of December 31, 1997. Subsequent to December 31, 1997, the Company borrowed $2.0 million from World Airways, the proceeds from which were used by the Company to repay a portion of the Notes. This loan is collateralized by 1.0 million of World Airways' shares owned by WorldCorp, bears interest at prime plus 2.5%, and is due on April 28, 1998. On August 26, 1997, World Airways completed a private offering, issuing $50.0 million of 8% convertible senior subordinated debentures (the "Debentures") due in 2004 (the "Offering"). The Debentures were subsequently registered with the Securities and Exchange Commission. The Debentures are unsecured obligations, convertible into shares of World Airways' common stock at $8.90 per share, subject to adjustment in certain events, and subordinated to all present and future senior indebtedness of World Airways. In the event of a change in control of World Airways, as defined, the holders of the Debentures could require World Airways to repurchase the outstanding Debentures. The Debentures are not redeemable by World Airways prior to August 26, 2000. World Airways used the net proceeds of the Offering to purchase approximately 4.0 million shares of its common stock (see Notes 1, 4 and 6), repay certain indebtedness, increase working capital and for general corporate purposes. After completion of the Offering, World Airways repaid approximately $3.8 million, which was outstanding on the aircraft spare parts security agreement. Due to the Purchase, effective September 18, 1997, WorldCorp began reporting its share of World Airways' net assets and results of operations under the equity method of accounting. Accordingly, no World Airways debt balances are recorded in the accompanying balance sheet at December 31, 1997. Subsequent to December 31, 1997, World Airways amended its Credit Agreement with BNY, which included the aircraft security agreement and the $8.0 million revolving line of credit borrowing (see Note 12), to provide for up to a $25.0 million revolving line of credit borrowing (see Note 12). In 1996, in connection with a previous amendment, World Airways granted warrants to BNY to purchase up to 50,000 shares of authorized but unissued common stock. The warrants were granted at an exercise price of $8.00 per share which was equal to the market price of World Airways' stock at the date of grant. All warrants were vested and became fully exercisable at the date of grant and expire on December 31, 1999. The per share weighted-average fair value of warrants granted was $3.615 on the date of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: expected dividend yield of 0.0%, risk free interest rate of 6.0%, expected life of 3 years and expected volatility of 61.0%. World Airways recorded $0.2 million related to the warrants which will be amortized into interest expense over the terms of the related debt. In September 1995, World Airways entered into an agreement with a lessor to purchase a spare engine, previously under lease, for $5.5 million. World Airways paid $0.5 million upon closing and signed a note for the $5.0 million balance. The note bears interest at a rate of 7.25% and is payable over a 40-month period at $69,000 a month, with the balance of $3.3 million due on January 29, 1999. World Airways purchased an additional spare engine, which was delivered in March 1996, at a cost of approximately $8.0 million. World Airways entered into an agreement with the engine's manufacturer to finance 80% of the purchase price over a seven-year term at an interest rate of 9.98%. World Airways made payments of $1.2 million and $0.4 million towards this purchase in September 1995 and January 1996, respectively. In January 1996, World Airways agreed to purchase an additional engine for approximately $7.2 million and received a commitment from the engine manufacturer to finance 85% of its purchase price over a seven-year term with an interest rate to be fixed at the time of delivery. In June 1997, World Airways took delivery of the engine and signed a note for $6.3 million. The note bears interest at a rate of 8.18% and is payable over an 84-month period at approximately $48,000 per month, with the balance of $2.2 million due on June 18, 2004. During 1993, World Airways negotiated with several of its lessors to defer approximately $14.7 million of lease payments on eight aircraft. In addition, during 1995 and 1994 World Airways deferred approximately $0.7 million of rent, pursuant to the 1993 agreement. Of these amounts, World Airways repaid approximately $14.5 million through 1997. The following table shows the aggregate annual amount of scheduled WorldCorp principal maturities (in thousands) of debt outstanding at December 31, 1997, excluding capital lease obligations: 1998 $ 10,000 1999 -- 2000 -- 2001 -- 2002 -- Thereafter 65,000 ------ Total 75,000 Less: unamortized debt discount (397) ---- Total $ 74,603 ========== The above scheduled principal maturities do not include World Airways' borrowings since WorldCorp began recording its share of World Airways' net assets and results of operations under the equity method of accounting as of September 18, 1997. Capital Leases The present value of the obligations under WorldCorp capital leases at December 31, 1997, calculated using a rate of 8.9%, amounted to approximately $23,000, net of imputed interest of approximately $1,000, is due in 1998. Property under capital leases consists of equipment leases and are amortized over the lease terms or expected useful life of the assets. As a result of the Purchase, WorldCorp began reporting its share of World Airways' net assets and results of operations under the equity method of accounting as of September 18, 1997. Accumulated amortization under capital leases was $0.1 million and $4.3 million at December 31, 1997 and 1996, respectively. Amortization expense of property under capital leases totaled approximately $0.5 million for the period January 1, 1997 through September 17, 1997 and $0.7 million for the years ended December 31, 1996 and 1995. Operating Leases In October 1992 and January 1993, World Airways signed a series of agreements with International Lease Finance Corporation ("ILFC"), McDonnell Douglas Corporation, GATX Capital Corporation, and United Technologies Corporation's Pratt & Whitney Group ("Pratt and Whitney") to lease seven new McDonnell Douglas MD-11 aircraft and associated engines under initial lease terms of two to five years. World Airways returned one aircraft in August 1997. The remaining six aircraft leases contain annual renewal options in years six through fifteen of the lease term. If these renewal options are not exercised, World Airways is required to pay a substantial penalty to the lessor. Under the terms of the lease agreements, World Airways may be required to pay additional rent in excess of the fixed monthly amounts depending on block hours flown. In February 1992, World Airways signed 12-year operating leases for two McDonnell Douglas DC10-30 passenger aircraft. In July 1993, World Airways returned these aircraft to their lessor. Certain matters related to the termination of these leases were resolved in 1995 and resulted in a gain to World Airways of approximately $0.8 million. This gain is included in other income in 1995. World Airways' MD-11 leases contain options to purchase the aircraft at various times throughout the lease terms. Long-term deposits consist primarily of deposits on the MD-11 leases. As part of the lease agreements, World Airways was assigned purchase options for four additional MD-11 aircraft. In 1992, World Airways made non-refundable deposits to McDonnell Douglas toward the option aircraft. In March 1996, World Airways entered into an agreement with McDonnell Douglas to lease two MD-11ER aircraft. Under this agreement, World Airways is leasing each aircraft for a term of 24 years with an option to return the aircraft after a seven year period, subject to fixed termination fees of $2.8 million per aircraft. The non-refundable deposits of $1.2 million previously paid to McDonnell Douglas towards options on four MD-11 aircraft were applied to the deposits required on the MD-11ER aircraft. World Airways entered into a simultaneous agreement with McDonnell Douglas to finance MD-11 spare parts. World Airways can borrow a total of $9.0 million of which $3.0 million became available with the delivery of each aircraft and an additional $3.0 million became available in December 1996. Net borrowings under the agreement were $6.3 million and $5.9 million at December 31, 1997 and 1996, respectively. McDonnell Douglas retains a purchase money lien in the purchased parts. In connection with this lease agreement, World Airways agreed to assume an existing lease of two additional MD-11 freighter aircraft for 20 years, beginning in 1999, in the event the existing lessee terminates its lease with McDonnell Douglas at that time. Effective August 1997, World Airways entered into an agreement with one of its lessors to return a passenger MD-11 aircraft. The aircraft was returned in September 1997. In conjunction with the aircraft return, World Airways forfeited security deposits of $0.2 million and paid an additional $0.2 million to the lessor in 1998. In October 1997, one of World Airways' MD-11 aircraft was damaged upon its landing at Montevideo, Uruguay. The aircraft was out of service until January 1998 while certain repairs were made. World Airways expects insurance to cover the majority of repair and certain related costs. In 1995, World Airways entered into three DC10-30 aircraft leases with lease terms, as amended, expiring in September 1998, December 1998 and August 1999. In addition, another DC-10 aircraft lease expires in January 2003. As of December 31, 1997, World Airways' fleet consisted of three passenger MD-11 aircraft, one freighter MD- 11 aircraft, two convertible MD-11 aircraft, two MD-11ER aircraft, three passenger DC10-30 aircraft, and one DC10-30 convertible aircraft. World Airways extended the lease terms on two spare engines during 1996. One lease, originally expiring on December 31, 1995, was extended until February 1998. This lease was classified as a capital lease at December 31, 1995, but became an operating lease under the new agreement. The other engine was extended three years from its original April 20, 1996 termination date. During 1997, World Airways reached a settlement with its engine manufacturer for reimbursements related to disputed spare engine lease charges. As a result of this settlement, during 1997, World Airways reversed aircraft costs of $0.9 million originally recorded during 1996. In addition, World Airways received the use, at no charge, of one spare engine through September 30, 1998. During 1997, World Airways' lease for its headquarters space expired, and World Airways entered into a new agreement with the lessor to lease the space until 2003. As part of the lease agreement, the lessor agreed to finance certain leasehold improvements provided that World Airways meets specific net worth requirements. As a result of World Airways' purchase of 3,227,000 shares on September 18, 1997 (see Note 1), World Airways was not in compliance with this covenant. World Airways and the lessor are currently discussing possible amendments to the agreement. As a result of the Purchase, WorldCorp began reporting its share of World Airways' net assets and results of operations under the equity method of accounting as of September 18, 1997. Rental expense for continuing operations, primarily relating to aircraft leases, totaled approximately $64.7 million, $84.6 million, and $66.7 million for the period January 1 through September 17, 1997 and for the years ended December 31, 1996 and 1995 respectively. WorldCorp has no future annual minimum rental payment obligations. The following is a schedule of World Airways' future annual minimum rental payments, principally aircraft rentals (excluding variable portions), required under operating leases that have initial or remaining noncancellable lease terms in excess of one year as of December 31, 1997 (in thousands): 1998 $ 79,500 1999 72,772 2000 72,831 2001 72,989 2002 73,148 Thereafter 612,817 ------- Total $ 984,057 ================ These future annual minimum rental payments include all option years. Under the terms of certain of the MD-11 leases, if the options are not exercised, World Airways must pay a substantial penalty to the lessor, consisting of either a fixed penalty or a penalty based on the number of block hours flown since delivery of the aircraft. World Airways intends to exercise the options under these leases. 14. COMMON STOCK PURCHASE WARRANTS BNYFC Warrants On December 7, 1993, in connection with a revolving line of credit facility and an aircraft parts security agreement (see Notes 12 and 13), the Company granted to Bank of New York Financial Corporation ("BNYFC") warrants expiring December 7, 1996 to purchase 250,000 shares of the Company's common stock, at a price of $6.15 per share. During 1996, 150,000 warrants were exercised and the remaining 100,000 warrants expired unexercised. Therefore, at December 31, 1997, there were no WorldCorp BNYFC warrants outstanding. 1989 Executive Warrants During 1989, the Company entered into warrant agreements with certain officers of the Company providing for the issuance of warrants ("the 1989 Executive Warrants") to purchase a total of 745,000 shares of the Company's common stock at an exercise price of $5.50; such warrants vested at differing rates over 60 months. The 1989 Executive Warrants expired on August 31, 1997. During 1995, 141,083 warrants were exercised. As of December 31, 1997, 603,917 of these warrants had been canceled or expired. 1996 Purchase Agreement Warrants On September 30, 1996, in connection with the Purchase Agreement (see Note 13), the Company entered into an agreement to issue up to 200,000 warrants. The warrants are fully exercisable when granted. 120,000 of the warrants were granted on September 30, 1996 and expire on September 30, 2000. The remaining 80,000 warrants were issuable as to 40,000 each on October 1, 1997 and October 1, 1998 and expire on September 30, 2001 and September 30, 2002, respectively, and are contingent upon certain market conditions. The conditions for granting the first 40,000 warrants were met during 1997, rendering these warrants issuable. The warrants have an exercise price of $6.00 per share, subject to certain adjustments. The per share weighted-average fair value of warrants granted during 1996 was $2.99 on the date of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: dividend yield of 0.0%, risk- free interest rate of 6.1%, expected life of 4 years and expected volatility of 62%. The Company recorded $0.6 million related to the warrants which will be amortized into interest expense over the term of the related debt. 15. STOCK OPTIONS On July 19, 1988, the Board of Directors approved the WorldCorp, Inc. 1988 Stock Option Plan (the "1988 Plan"). The 1988 Plan was amended and restated on May 13, 1992. The 1988 Plan calls for one share of WorldCorp common stock to be issued upon exercise of one stock option. Warrants issuable under the 1988 Plan, as amended, shall not exceed 2,800,000 in the aggregate. Options may be granted to employees and directors at the discretion of the Administrative Committee of the 1988 Plan. In 1990, the 1988 Plan was amended to change the vesting percentage to 20% per year beginning on the grant date provided that the grantee was still an employee of the Company or a subsidiary. These options expire at the earlier of the stated expiration, which shall not exceed ten years from the date of grant, or at a certain period of time after the termination of the participants' employment with the Company. Stock options are granted with an exercise price at least equal to the stock's fair market value at the date of grant. In August 1994, the Company granted 1,050,000 options to an officer and a board member of the Company. These options become vested at various times through May 2004. During 1997, 1996 and 1995, approximately $0.1 million, $0.2 million and $0.7 million, respectively, of compensation expense was recognized in connection with the vested portion of these options. These options expire at the earlier of the stated expiration, or a certain period of time after the termination of the participants' employment with the Company. The per share weighted-average fair value of stock options granted during 1997, 1996 and 1995 was $1.20, $4.59 and $7.21, respectively, on the date of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: 1997 1996 1995 ---- ---- ---- Expected dividend yield 0.00% 0.00% 0.00% Risk-free interest rate 5.8% 6.2% to 6.5% 5.3% to 5.6% Expected life (in years) 5 to 10 5 to 10 5 to 8 Expected volatility 58% to 61% 56% to 59% 58% to 59% The Company applies APB Opinion No. 25 in accounting for its Plan and, accordingly, no compensation cost has been recognized for its stock options which were granted with an exercise price at least equal to the stock's fair market value at the date of grant, in the consolidated financial statements. Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Company's net earnings (loss) would have been changed to the pro forma amounts indicated below: 1997 1996 1995 ---- ---- ---- Net earnings (loss) As reported $ (19,128) $ (11,754) $ 60,208 Pro forma (20,534) (12,760) 59,433 Basic earnings (loss) per common equivalent share As reported $ (1.29) $ (0.73) $ 3.77 Pro forma (1.39) (0.79) 3.72 Diluted earnings (loss) per common equivalent share As reported $ * $ * $ 2.82 Pro forma * * 2.78 * Amounts are anti-dilutive Pro forma net earnings reflects only options granted in 1997, 1996 and 1995. Therefore, the full impact of calculating compensation cost for stock options under SFAS No. 123 is not reflected in the pro forma net earnings amounts presented above because compensation cost is reflected over the options' vesting period of six months to 10 years and compensation cost for options granted prior to January 1, 1995 is not considered. Stock option activity during the periods indicated is as follows: Number of Options Weighted-Average Outstanding Exercise Prices ----------- --------------- Balance at December 31, 1994 2,322,404 $ 5.68 Granted 50,000 7.06 Exercised (418,485) 5.47 Forfeited (100,000) 9.64 Expired (25,000) 9.07 ------- ---- Balance at December 31, 1995 1,828,919 $ 5.48 Granted 225,000 6.14 Exercised (104,456) 5.52 Forfeited -- -- Expired (125,845) 6.28 -------- ---- Balance at December 31, 1996 1,823,618 $ 5.50 Granted 275,000 1.86 Exercised -- -- Forfeited (431,667) 5.04 Expired (99,117) 6.09 ------- ---- Balance at December 31, 1997 1,567,834 $ 4.96 ========= ========== At December 31, 1997, the range of exercise prices and weighted-average remaining contractual life of outstanding options was $1.75 to $12.23 and 5.7 years, respectively. The following table summarizes the stock options outstanding and exercisable at December 31, 1997: Stock Options Outstanding Stock Options Exercisable ------------------------- ------------------------- Weighted Weighted Range of Number of Average Average Number of Weighted Exercise Options Remaining Life Exercise Options Average Price Outstanding (Years) Price Exercisable Exercise Price - ----- ----------- ------- ----- ----------- -------------- $ 1.75 - 2.00 275,000 9.8 $ 1.86 52,083 $ 1.99 4.01 - 5.00 870,000 6.1 4.51 820,000 4.51 5.01 - 6.00 155,000 1.3 5.63 155,000 5.63 7.01 - 8.00 79,223 2.5 7.49 79,223 7.49 9.01 - 10.00 163,611 1.9 9.55 163,611 9.55 12.01 - 13.00 25,000 5.7 12.23 25,000 12.23 --------- --------- 1,567,834 1,294,917 ========= ========= At December 31, 1997 and 1996, the number of options exercisable was 1,294,917 and 1,324,244, respectively, and the weighted-average exercise price of those options was $5.51 and $5.50, respectively. World Airways has adopted separate stock option plans for members of its board of directors, employees and consultants. 16. EMPLOYEE BENEFIT PLANS During 1989, the Company adopted an Employee Stock Ownership Plan (the "ESOP") for the benefit of employees not covered by collective bargaining agreements. The ESOP is designed as a stock bonus plan which qualifies for favorable tax treatment under Section 401(a) of the Internal Revenue Code of 1986, as amended (the "Code"), and as an employee stock ownership plan under Section 4975(e)(7) of the Code. In addition, the ESOP includes a "cash or deferred arrangement" under Section 401(k) of the Code. During 1989, the ESOP acquired 450,000 shares of common stock from Violet June Daly and 450,000 shares of common stock from the Estate of Edward J. Daly. The purchase price in each transaction was $4.00 per share or a total of $3.6 million. In 1990, the ESOP was replaced by the Employee Savings and Stock Ownership Plan ("the WorldCorp KSOP"). Participation in the WorldCorp KSOP was limited to employees not covered under a collective bargaining agreement. Employees could elect to invest Salary Deferral Contributions in either the WorldCorp Stock Fund or in other investment funds. The WorldCorp KSOP provided employer matching contributions in the WorldCorp Stock Fund at a rate determined by the Board of Directors, but at no less than 50% of the salary deferral contribution. The employer matching contribution rate in the WorldCorp Stock Fund for 1997, 1996 and 1995 was 100%. The employer matching contribution in other investment funds was at the rate of 33 1/3% of the Salary Deferral Contribution. The Company charged approximately $0.01 million, $0.2 million and $0.3 million to expense for its contributions in 1997, 1996 and 1995, respectively. The Board of Directors of World Airways adopted an Employee Savings and Stock Ownership Plan (the "Plan") effective October 1, 1996. The Plan is intended to allow employees not covered by collective bargaining agreements, as well as certain WorldCorp and WorldCorp Investments, Inc. employees, to share in the growth and prosperity of World Airways, to encourage participants to save on a tax-favored basis, and to provide participants an opportunity to accumulate capital for their future economic security. The Plan is an amendment and continuation of the WorldCorp KSOP. As a result of various business developments, the vast majority of the participants in the WorldCorp KSOP were World Airways employees. For that reason, in 1996, World Airways and WorldCorp agreed that World Airways should assume WorldCorp's obligation under the WorldCorp KSOP. In connection with that action, the Trustees exchanged the unallocated shares of WorldCorp common stock held by the WorldCorp KSOP for a like-value of shares in World Airways common stock. World Airways also made a special contribution of $50,000 to the Plan. The WorldCorp KSOP originally assumed bank financing from its predecessor plan, the WorldCorp Employee Stock Ownership Plan. This obligation was paid off by WorldCorp in 1994 and the WorldCorp KSOP agreed to repay WorldCorp the amount of the bank loan. The WorldCorp KSOP refinanced its debt to WorldCorp through a margin loan obtained in January 1995 and amended in May 1996 in the amount of $1.5 million. As discussed above, effective October 1, 1996, World Airways and WorldCorp agreed that World Airways should assume WorldCorp's obligation under the WorldCorp KSOP. Principal payments of $90,000 are due quarterly and a final principal payment of $0.1 million is due May 1998. Interest is payable quarterly at the call loan rate plus 1.5%. The margin loan is collateralized by approximately 59,677 of the unallocated shares of common stock owned by the Plan at December 31, 1997. World Airways is required to make minimum annual discretionary contributions to the Plan in an amount necessary to pay principal and interest due on the margin loan to the extent that other contributions to the Plan are insufficient to make such payments. Contributions were sufficient to make the required principal and interest payments during 1997. The Plan will continue to hold the shares of WorldCorp common stock that were allocated to the participants' accounts before October 1, 1996. No additional shares of WorldCorp common stock will be allocated under the Plan on or after that date. Instead, participants will have the opportunity to receive future allocations of World Airways common stock. Under the Plan, employees may elect to invest salary deferral contributions in either the World Airways Stock Fund or in other investment funds. The Plan provides employer matching contributions in the World Airways Stock Fund at a rate determined by the Board of Directors, but at no less than 50% of the salary deferral contribution. The employer matching contribution rate in the other investment funds is 33 1/3% of the salary deferral contribution. World Airways expensed approximately $ 0.2 million for its contributions to the Plan for the period January 1, 1997 through September 17, 1997. The World Airways' Crewmembers Target Benefit Plan is a defined contribution plan covering flight engineers and pilots with contributions based upon defined wages. It is a tax-qualified retirement plan under Section 401(a) of the Internal Revenue Code of 1986, as amended (the "Code"). Pension expense for the Target Benefit plan totaled $1.4 million, $2.5 million, and $1.9 million for the period January 1, 1997 through September 17, 1997 and for the years ended December 31, 1996, and 1995, respectively. Until September 1996, World Airways' flight attendants participated in the World Airways' Flight Attendant Target Benefit Plan, which was a tax-qualified retirement plan under Section 401(a) of the Code. Under the collective bargaining agreement between World Airways and the flight attendants, represented by the International Brotherhood of Teamsters ("Teamsters"), that was signed in June 1996 and ratified by the flight attendants in August 1996, the World Airways' Flight Attendant Target Benefit Plan was terminated in September 1996. World Airways is required under the agreement to make certain monthly payments on behalf of the flight attendants to the Teamsters subsequent to the termination of the previous plan. Pension contributions made to the Teamsters on behalf of the flight attendants totaled $0.3 million and $0.1 million for the period January 1, 1997 through September 17, 1997, and the fourth quarter of 1996, respectively. Pension expense relating to the Flight Attendant Target Benefit Plan totaled $0.5 million and $0.2 million for the first three quarters of 1996 and the year ended 1995, respectively. Effective January 1, 1994, World Airways adopted the World Airways, Inc. Retroactivity and Profit Sharing Bonus Plan ("the 1994 Profit Sharing Plan"). The 1994 Profit Sharing Plan provides for the payment of retroactive pay to certain DC10 crewmembers for the period July 1, 1992 to August 15, 1994, as well as for certain profit sharing payments. Distributions under the 1994 Profit Sharing Plan are equal to 20% of World Airways defined earnings, subject to an annual limitation of 10% of the total annual aggregate compensation of World Airways employees participating in the 1994 Profit Sharing Plan in that year. This is not a tax-qualified retirement plan under Section 401(a) of the Code. World Airways distributed approximately $1.7 million in 1996 pertaining to 1995 results, which included the retroactive payment required under the plan. World Airways did not make any 1997 distributions pertaining to 1996 results. World Airways expects to distribute approximately $2.6 million in 1998 pertaining to 1997 results. World Airways' cockpit crewmembers and eligible dependents are covered under postretirement health care benefits to age 65. World Airways accounts for the cost of health benefits in accordance with FAS 106 which requires accrual accounting for all postretirement benefits other than pensions. World Airways funds the benefit costs on a pay-as-you- go (cash) basis. A summary of the net periodic postretirement benefit costs for the period January 1, 1997 through September 17, 1997 and for the years ended December 31, 1996 and 1995 is as follows: 1997 1996 1995 ---- ---- ---- Service cost $ 118,000 $ 176,000 $ 118,000 Interest cost on accumulated postretirement benefit obligation 78,000 100,000 134,000 Net amortized gain (38,000) (38,000) (40,000) ------- ------- ------- Net periodic postretirement benefit cost $ 158,000 $ 238,000 $ 212,000 =========== ============ =========== As a result of the Purchase, beginning September 18, 1997, WorldCorp reports its share of World Airways' net assets and results of operations under the equity method of accounting. Therefore, there is no amount included for the accrued postretirement benefit obligation in the accompanying balance sheet at December 31, 1997. However, the following table shows the components of the World Airways accumulated postretirement benefit obligation as of December 31, 1997 and 1996: 1997 1996 ---- ---- Retirees and dependents $ 863,000 $ 789,000 Fully eligible, active participants 183,000 229,000 Not fully eligible participants 1,706,000 1,527,000 --------- --------- $ 2,752,000 $ 2,545,000 Less: plan assets -- -- --------- --------- Accrued postretirement benefit obligation $ 2,752,000 $ 2,545,000 =========== ============ The assumed discount rate used to measure the accumulated postretirement benefit obligation for 1997 and 1996 was 6.75%. The medical cost trend rate in 1998 was 7.5% trending down to an ultimate rate in 2021 of 4.0%. A one percentage point increase in the assumed health care cost trend rates for each future year would have increased the aggregate of the service and interest cost components of 1997 net periodic postretirement benefit cost by $28,000 and would have increased the accumulated postretirement benefit obligation as of December 31, 1997 by $121,000. Near the end of 1997, the Company entered into employment agreements with two of its senior executives. Under these agreements, the Company granted the employees options to purchase 475,000 and 100,000 shares of InteliData and World Airways' stock, respectively, owned by the Company. The exercise prices of the InteliData options range from $2.98 to $3.00, and the exercise price of the World Airways' options is $7.92. The per share weighted-average fair values of the InteliData options and the World Airways' options at the date of the grant were $2.01 and $5.08, respectively. The Company is amortizing the estimated fair value of these options of $1.5 million over the vesting periods of the options, which range from two years to ten years, with accelerated vesting under certain circumstances. The Company expensed approximately $0.2 million during 1997 relating to these options. Near the end of 1997, the Company also agreed to adopt a supplemental executive retirement plan for one of its executives, which is expected to require certain funding in 1998 and 1999. 17. EARNINGS PER SHARE Earnings per share ("EPS") for the years ended December 31, 1997, 1996 and 1995 are computed as follows: For the Year Ended December 31, 1997 ------------------------------------ Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Loss from continuing operations $ (19,128,000) 14,804,356 $ (1.29) ====== Effect of Dilutive Securities 7% convertible debentures 4,550,000 5,877,034 --------- --------- Diluted EPS Loss available to common stockholders $ (14,578,000) 20,681,390 $ * ============== ========== ============ For the Year Ended December 31, 1996 ------------------------------------ Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Earning from continuing operations $ 7,437,000 16,153,227 $ 0.46 ===== Effect of Dilutive Securities Options -- 530,970 7% convertible debentures 4,550,000 5,877,034 --------- --------- Diluted EPS Earnings available to common stockholders $ 11,987,000 22,561,231 $ * ============ ========== ============= For the Year Ended December 31, 1995 ------------------------------------ Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Earnings from continuing operations $ 64,158,000 15,988,365 $ 4.01 ======= Effect of Dilutive Securities Options -- 1,129,467 7% convertible debentures 4,550,000 5,877,034 - - --------- --------- Diluted EPS Earnings available to common stockholders $ 68,708,000 22,994,866 $ 2.99 ============= ========== ============= * Amounts are anti-dilutive. 18. FEDERAL AND STATE INCOME TAXES Income tax expense attributable to earnings from continuing operations consists of (in thousands): For the years ended December 31, -------------------------------- 1997 1996 1995 ---- ---- ---- U.S. Federal $ 350 $ 504 $ 573 State -- -- 88 --- --- --- Income tax expense $ 350 $ 504 $ 661 ========= ========= =========== There is no deferred tax expense or benefit for the years ended December 31, 1997, 1996, and 1995. Income tax expense attributable to earnings (loss) from continuing operations for the years ended December 31, 1997, 1996, and 1995 differed from the amounts computed by applying the U.S. Federal income tax rate of 34 percent for the years ended December 31, 1997, 1996 and 1995 as a result of the following (in thousands): For the years ended December 31, -------------------------------- 1997 1996 1995 ---- ---- ---- Expected Federal income tax expense(benefit) at the statutory rate $ (6,385) $ 2,700 $ 22,038 Change in valuation allowance, net of change attributed to discontinued operations losses 6,207 (3,339) -- Amounts attributable to (earnings)/loss of subsidiaries not consolidated for tax purposes -- -- (3,115) Income tax expense of subsidiaries not consolidated for tax purposes 350 -- 296 Loss (gain) on issuances (purchases) of equity by affiliates not consolidated for tax purposes -- -- (14,850) Amortization of goodwill -- -- 283 Book/tax difference in gain on sales of subsidiaries stock -- -- (252) Generation (utilization) of net operating loss and capital loss carryforwards -- -- (3,640) Federal alternative minimum tax and environmental tax -- -- 231 State income tax expense, net of Federal benefit -- -- 58 Other 178 1,143 (388) --- ----- ---- Income tax expense $ 350 $ 504 $ 661 =========== ======== ========== The tax effects of temporary differences that give rise to significant portions of deferred tax assets and liabilities at December 31, are as follows (in thousands): 1997 1996 ---- ---- Deferred tax assets: Net operating loss carryforwards $ 21,419 $ 18,111 Investment in affiliate 8,648 14,480 Deferred compensation 8 199 Accruals not deductible for tax 67 24 Compensated absences, primarily due to accrual for financial statement purposes 16 10 ------ ------ Gross deferred tax assets 30,158 32,824 Less: valuation allowance 29,484 23,277 ------ ------ Net deferred tax assets 674 9,547 ------ ----- Deferred tax liabilities: Investment in affiliate 630 9,499 Property and equipment 44 48 ------ ----- Gross deferred tax liabilities 674 9,547 ------ ----- Net deferred income taxes $ -- $ -- ====== ===== The valuation allowance for deferred tax assets as of January 1, 1996 was $20.1 million. The net change in the total valuation allowance for the year ended December 31, 1996 was an increase of $ 3.2 million and an increase of $6.2 million for the year ended December 31, 1997. As of December 31, 1997, the Company has approximately $ 63.0 million of net operating loss carryforwards, which expire as follows (in millions): 2005 5.8 2007 15.2 2008 11.2 2009 10.1 2010 1.1 2011 10.2 2012 9.4 --- $ 63.0 ====== There can be no assurance that the operations of the Company will generate taxable income in future years so as to allow the Company to realize a tax benefit from its net operating loss carryforwards ("NOLs"). The NOLs are subject to examination by the IRS and thus, are subject to adjustment or disallowance resulting from any such IRS examination. In addition, an ownership change of the Company, as defined in the Internal Revenue Code, may occur in the future and may result in the imposition of a lower annual limitation on the Company's NOLs existing at the time of any such ownership change. As a result of certain transactions with MHS in 1994 (see Note 6), World Airways is no longer consolidated with the Company for income tax purposes. As of December 31, 1997, World Airways had NOLs for federal income tax purposes of approximately $92.2 million, which is only available to offset future federal taxable income of World Airways. Of this amount, $ 27.8 million is subject to a $6.9 million annual limitation resulting from an ownership change, pursuant to the Internal Revenue Code of 1986, as amended, which occurred in 1991. In addition, future transactions in the stock of the Company, World Airways or World Airways' stockholders could cause an additional ownership change at World Airways, which could result in a substantial reduction in the annual limitation in the use of World Airways' NOLs and the loss of a substantial portion of the NOLs available to World Airways. 19. MAJOR CUSTOMERS The Company owns positions in companies that operate in two distinct business areas. As of December 31, 1997, the Company owned approximately 46.3% of the outstanding common stock of World Airways, a provider of worldwide passenger and cargo air transportation for commercial and government customers. The Company also owns 29.4% of InteliData, a company which concentrates on two markets: telecommunications and electronic commerce. As a result of the Purchase (see Note 1), as of September 18, 1997, WorldCorp began reporting its share of World Airways' net assets and results of operations under the equity method of accounting which is included in equity in earnings (loss) of affiliates, net in the accompanying statements of operations. Results of operations for the period prior to the Purchase are included in WorldCorp's consolidated results of operations. Information concerning customers for years in which their revenues comprised 10% or more of the Company's consolidated operating revenues is presented in the following table (in thousands): For the Period Year ended December 31, January 1, 1997 ----------------------- Through September 17, 1997 1996 1995 ------------------ ---- ---- Malaysian Airlines $ 51,143 $ 105,410 $ 100,934 U.S. Department of Defense (including U.S. Air Force) 45,114 79,029 52,889 Philippine Airlines 75,889 46,516 -- P. T. Garuda Indonesia 30,627 39,849 26,263 Look Charters -- 3,749 3,677 World Airways has provided wet lease services to Malaysian Airlines since 1981, providing wet lease services for Malaysian Airlines' scheduled passenger and cargo operations as well as transporting passengers for the annual Hadj pilgrimage. MHS, which owned 16.8% of World Airways as of January 23, 1998, also owns 28% of Malaysian Airlines. World Airways also entered into a 32-month agreement for year-round operations (including the Hadj) with Malaysian Airlines whereby World Airways is providing two passenger aircraft with cockpit crews, maintenance and insurance to Malaysian Airlines' newly-formed charter division through May 1999. However, World Airways agreed to a five month reduction in the utilization of one aircraft during 1997, although the aircraft was redeployed in other activity. Malaysian Airlines has not informed World Airways of any reductions for 1998. World Airways provided three aircraft for 1997 Hadj operations. MAS received notice from the Malaysian Hadj Board that MAS would not participate in the 1998 Hadj pilgrimage. As a result, MAS entered into an agreement on behalf of World Airways for World Airways to provide two DC-10 aircraft to fly in the 1998 Indian Hadj. World Airways has a long-term contract to operate three MD-11 cargo aircraft for Malaysian Airlines. However, beginning in July 1996, and as mutually agreed by the parties, World Airways redeployed two cargo aircraft, which had been operating under these contracts, into another contract which ended in February 1998. World Airways and Malaysian Airlines are currently discussing redeployment of these aircraft back into Malaysian Airlines' operations during 1998 in order to meet the contracts' original obligations. World Airways can provide no assurances, however, that World Airways will, in fact, be able to do so. World Airways' contract with the U.S. Air Force expires in September 1998. World Airways anticipates that future renewals of the U.S. Air Force contract will be on an annual basis. World Airways has provided service to PT Garuda Indonesia ("Garuda") since 1973 and has operated under an annual Hadj contract since 1988. World Airways operated six aircraft in the 1997 Garuda Hadj and seven aircraft in the 1996 Garuda Hadj. World Airways will operate six aircraft for the 1998 Garuda Hadj. World Airways had agreements with Philippine Airlines to operate four passenger aircraft until November 1997. As a result of the economic distress experienced in the Philippines, World Airways negotiated to terminate the agreements on two of the aircraft effective in August 1997, and received monthly termination payments totaling $3.0 million through the original end of the agreements in November 1997. In addition, the contracts on the remaining two aircraft were extended until February 1998 and the per block hour rates for those two aircraft were reduced slightly. The two aircraft which were removed from Philippine Airlines service were redeployed by World Airways under agreements with other customers. The contract with Philippine Airlines expired in February 1998. World Airways provided service to Look Charters under an annual contract from 1992 through 1996. In 1996 and 1995, World Airways performed operations for a summer charter program transporting passengers between Paris, France and various locations in the United States and Mexico. Although World Airways' strategy is to enter into long-term contracts with its customers, the terms of its existing customer contracts are substantially shorter than the terms of World Airways' lease obligations with respect to its aircraft. World Airways' financial results could be materially adversely affected even by relatively brief periods of low aircraft utilization and yields. Consistent with prior years,World Airways has substantial uncontracted capacity in the third and fourth quarters of 1998 and beyond. In addition, as further described below, its major customer, Malaysian Airlines, is subject to the financial difficulties associated with the adverse economic conditions in Malaysia and the Asia Pacific Region. Although there can be no assurance that it will be able to secure additional business to reduce this excess capacity, World Airways is actively seeking customers for 1998 and beyond, and has historically been successful in obtaining new customers. A substantial portion of World Airways' business in 1997 was with two customers: Malaysian Airlines and Philippine Airlines. The contract with Philippine Airlines expired in February, 1998. In 1997, World Airways received approximately $11.2 million in revenue associated with minimum guarantee payments from Malaysian Airlines and $3.0 million in contract modification payments from Philippine Airlines, not associated with aircraft flying and related costs. As of December 31, 1997, Malaysian Airlines and Philippine Airlines owed World Airways $2.6 million and $1.0 million, respectively, primarily related to reimbursable costs incurred by World Airways. A substantial portion of World Airways' contracted business in 1998 is with Malaysian Airlines and Garuda Indonesia. Although World Airways' customers bear the financial risk of filling its aircraft with passengers or cargo,World Airways can be affected adversely if its customers are unable to operate its aircraft profitably, or if one or more of its customers experience a material adverse change in their market demand, financial condition or results of operations. Under these circumstances,World Airways can be adversely affected by receiving delayed or partial payments or by receiving customer demands for rate and utilization reductions, flight cancellations, and/or early termination of their agreements. In 1997, the affects of the adverse economic conditions in Malaysia and Indonesia and other countries in the Asia Pacific Region included a national liquidity crisis, significant depreciation in the value of the ringgit and rupiah, higher domestic interest rates, reduced opportunity for refinancing or refunding of maturing debts, and a general reduction in spending throughout the region. These conditions and similar conditions in other countries in the Asia Pacific Region could have a material adverse effect on the operations of Malaysian Airlines and Garuda Indonesia, and therefore on the operations of World Airways. However, management also believes these conditions could provide new opportunities to wet lease aircraft to airlines customers, particularly those who have deferred or canceled new aircraft orders but are still in need of providing additional airlift. All export contracts are denominated in U.S. dollars as are substantially all of the related expenses. The classification between domestic and export revenues is based on entity definitions prescribed in the economic regulations of the Department of Transportation. Information concerning World Airways' export revenues from continuing operations is presented in the following table (in thousands): For the Period Year ended December 31, January 1, 1997 ----------------------- Through September 17, 1997 1996 1995 ------------------ ---- ---- Operating Revenues: Domestic $ 47,190 $ 91,516 $ 59,278 Export - Malaysia 51,143 105,410 100,934 - Philippines 75,889 46,516 -- - Indonesia 30,627 39,849 26,263 - Belgium 9,136 -- -- - France -- 3,749 6,897 - Other 2,107 22,547 49,014 ----- ------ ------ Total $ 216,092 $ 309,587 $ 242,386 =========== =========== =========== 20. RELATED PARTY TRANSACTIONS Effective November 10, 1988, T. Coleman Andrews', III employment agreement to serve as Chief Executive Officer and President of WorldCorp, which was originally entered into in August 1986, was extended an additional five years to August 1, 1994. In connection with the employment agreement, Mr. Andrews had also entered into a Supplemental Incentive Agreement ("the Incentive Agreement") with WorldCorp that provided for a bonus in the amount of $1.3 million plus interest earned at 8.91% to be paid to Mr. Andrews on August 1, 1994, provided he was still an employee of WorldCorp at that time. In connection with this employment arrangement, the Company loaned Mr. Andrews $1.3 million on January 10, 1989. Mr. Andrews executed and delivered to the Company a full recourse promissory note dated January 10, 1989. The principal amount of the note was due and payable on December 31, 1994 and interest accrued quarterly and was payable at maturity at a fixed rate of 8.91% per annum. Effective December 1993, the Company and Mr. Andrews terminated the Incentive Agreement and entered into a new agreement. In connection with the new agreement, the Company paid Mr. Andrews in December 1993 (approximately seven months early) $0.2 million due him under the Incentive Agreement. The new agreement delays payment to Mr. Andrews of the balance due under the Incentive Agreement and provides that the Company will make four annual installment payments of $0.4 million beginning January 2, 1995, plus interest earned at 3.83% in 1995 and 1996 and 5.07% in 1997 and 1998. The first three payments were made as scheduled in 1995, 1996 and 1997. The remaining and final payment under the Incentive Agreement was made on January 2, 1998. At the same time, Mr. Andrews agreed to cancel his previous promissory note dated January 10, 1989 and issue a full recourse promissory note dated December 29, 1993. The principal amount of $1.8 million is payable in annual installments of varying amounts beginning January 1, 1994 and payable every February 1 thereafter until 1998. Interest is payable at 3.83% in 1995 and 1996 and 5.07% in 1997 and 1998. Mr. Andrews has reduced the principal balance of his obligation to the Company by $1.1 million. Mr. Andrews and the Company entered into a new two year employment agreement as of October 1, 1997 to serve as Chairman of the Company. In October, 1997, Mr. Andrews entered into a promissory note for $0.9 million representing the remaining amounts due to the Company under the previous note, payable in annual installments beginning February 28, 1998 through February 28, 2001, bearing interest at 6.1%. The Incentive Agreement amounts are included in accrued wages in the accompanying consolidated balance sheets. As of December 31, 1997 and 1996, $0 and $0.4 million, respectively, of the promissory note are included in prepaid expenses and other current assets and $0.8 million and $0.5 million, respectively, are included in other assets and deferred charges in the accompanying consolidated balance sheets. As of December 31, 1997, WorldCorp owns approximately 29.4% of the outstanding common stock of InteliData (see Note 5). The former Chairman of the Board of Directors of WorldCorp is also one of the founders of US Order, and is currently the Chairman of the Board of InteliData. Effective January 23, 1998 and December 31, 1997, MHS owned approximately 16.8% and 24.9%, respectively, of the outstanding common stock of World Airways. Effective December 31, 1997, MHS owned approximately 28% of the outstanding common stock of Malaysian Airlines. Malaysian Airlines is one of World Airways' largest customers (see Notes 6 and 19). During 1997 the Company issued 26,000 shares of common stock to members of the Board of Directors of the Company as compensation for their services. Bain & Company, Inc. provided consulting services of approximately $0.2 million to the Company during 1995. A former principal of Bain & Company is also a member of the Board of Directors of WorldCorp. 21. COMMITMENTS AND CONTINGENCIES Litigation and Claims World Airways and WorldCorp (the "World Defendants") were defendants in litigation brought by the Committee of Unsecured Creditors of Washington Bancorporation in August 1992, captioned Washington Bancorporation v. Boster et. al., Adv. Proc. 92-0133 (Bankr. D.D.C.) (the "Boster Litigation"). Under a 1997 settlement agreement, the plaintiff agreed to dismiss with prejudice the Boster Litigation against all defendants, including the World Defendants, with each party to bear its own costs. Under the settlement agreement, the World Defendants do not have any further liability in the Boster Litigation. World Airways' cockpit crew members, who are represented by the International Brotherhood of Teamsters (the "Teamsters"), are subject to a four-year collective bargaining agreement that will become amendable in July 1998. Approximately 37% of World Airways' employees are covered under this collective bargaining agreement. World Airways expects to begin negotiations in April 1998 and cannot predict the outcome of the negotiations or their possible impact on World Airways' financial condition and results of operations. World Airways' flight attendants, who are also represented by the Teamsters, are subject to a four-year collective bargaining agreement that will expire in August 2000. World Airways' flight attendants argued the "scope clause" of the collective bargaining agreement had been violated by World Airways and challenged the use of foreign flight attendant crews on World Airways' flights for Malaysian Airlines and Garuda Indonesia which has historically been World Airways' operating procedure. World Airways is contractually obligated to permit its Southeast Asian customers to deploy their own flight attendants. While the arbitrator in this matter denied in 1997 the Union's request for back pay to affected flight attendants for flying relating to the 1994 Hadj, the arbitrator concluded that World Airways' contract with its flight attendants requires World Airways to first actively seek profitable business opportunities that require using World Airways' flight attendants, before World Airways may accept wet lease business opportunities that use the flight attendants of World Airways' customers. Subsequently, in 1997, the flight attendants challenged and filed "scope clause" grievances with respect to four separate wet-lease contracts. World Airways and the Teamsters are presently in discussions regarding these grievances. At this time, however, World Airways can give no assurance that these discussions will be successful and the grievances will not be submitted to formal arbitration. World Airways can provide no assurance as to how the resolution of this matter will affect World Airways' financial condition and results of operations. World Airways has periodically received correspondence from the FAA with respect to minor noncompliance matters. In November 1996, as the FAA has increased its scrutiny of U.S. airlines, World Airways was assessed a preliminary fine of $810,000 in connection with certain security violations by ground handling crews contracted by World Airways for services at foreign airport locations. Under 49 U.S.C., Section 46301, any violation of pertinent provisions of 49 U.S.C. Subsection 40101 or related rules is subject to a civil penalty for each violation. Upon review of the evidence or facts and circumstances relating to the violation, the statute allows for the compromise of proposed civil penalties. The penalties were proposed by the FAA in connection with recent inspections at foreign airport facilities and relate primarily to ground handling services provided by World Airways' customers in connection with their operations; specifically, the inspection procedures of its aircraft, passengers and associated cargo. In each of these instances, World Airways was in compliance with international regulations, but not the more stringent U.S. requirements, despite the fact that the flights in question did not originate or terminate in the United States. World Airways has taken steps to comply with the U.S. requirements. In September 1997, World Airways entered into a consent order and settlement agreement with the FAA in connection with the above-mentioned alleged violations. Pursuant to this agreement, World Airways is liable for the sum of $610,000, of which $405,000 was paid in September. The remaining $205,000 was suspended and will be forgiven if World Airways complies with the provisions of the settlement agreement, including not incurring any security violations during the one year period following the execution of the settlement agreement. While World Airways believes it is currently in compliance in all material respects with all appropriate standards and has all required licenses and authorities, any material non-compliance by World Airways therewith or the revocation or suspension of licenses or authorities could have a material adverse effect on the financial condition or results of operations of World Airways. In connection with the discontinuance of World Airways' scheduled service operations, World Airways is subject to claims by various third parties and may be subject to further claims in the future. One claim which had been filed in connection with World Airways' discontinuance of scheduled service to South Africa, and which sought approximately $37.8 million in compensatory and punitive damages, has been settled by the parties for approximately $0.7 million. Also, a claim has been filed in Germany against the Company by a tour operator seeking approximately $3.5 million in compensation related to the cancellation of a summer program in 1996. World Airways believes it has substantial defenses to this action, although no assurance can be given of the eventual outcome of this litigation. The Company is involved in various other claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company's financial condition. Contingent Rental Payments In July 1993, World Airways returned certain DC10-30 aircraft to the lessor (see Note 13). As a result of this early lease termination, World Airways is responsible, until 2004 for one aircraft and 2005 for the second aircraft, for one- third of any deficit in rent incurred in future leases of the aircraft, up to $100,000 monthly per plane, with an overall combined cap of $1,850,000. World Airways incurred $984,000 for rent shortfalls through December 1996. World Airways' remaining contingent liability related to this matter approximates $866,000. Letters of Credit At December 31, 1996, restricted cash and short-term investments included customer deposits held in escrow and cash pledged as collateral for various letters of credit facilities issued by a bank on World Airways' behalf totaling $1.0 million, with expiration dates occurring in 1997. At December 31, 1997, there were no outstanding letters of credit. MD-11 Engine Maintenance Agreement Engine maintenance accounts for most of World Airways' annual maintenance expenses. Typically, the hourly cost of engine maintenance increases as the aircraft ages. World Airways outsources major airframe maintenance and power plant work to several suppliers. World Airways has a 10-year contract expiring in August 2003 with United Technologies Corporation's Pratt & Whitney Group for all off-wing maintenance on the PW 4462 engines that power its MD-11 aircraft. Under this contract, the manufacturer agreed to provide such maintenance services at a cost not to exceed specified rates per hour during the term of the contract. The specified rates per hour are subject to annual escalation, increasing substantially in 1998. Accordingly, while World Airways believes the terms of this agreement have resulted in lower engine maintenance costs than it otherwise would incur, engine maintenance costs will increase substantially during the last five years of the agreement. World Airways began to accrue these increased expenses in 1997 and such expenses will continue to increase during the remainder of the term of the contract as World Airways' aircraft fleet ages. 22. UNAUDITED QUARTERLY RESULTS The results of the Company's quarterly operations (unaudited) for 1997 and 1996 are as follows (in thousands except per share amounts): Quarter Ended ------------------------------------------------------- March 31 June 30 September 30 December 31 Total Year -------- ------- ------------ ----------- ---------- 1997 Operating revenues $ 78,748 $ 81,928 $ 55,416 $ -- (1) $ 216,092 Operating income (loss) 6,022 5,488 (2) 1,543 (3) (354) (1) 12,699 Earnings (loss) from continuing operations 709 (213) (14,119) (4) (5,505) (19,128) Net earnings (loss) $ 709 $ (213) $ (14,119) $ (5,505) $ (19,128) Basic earnings (loss) per common equivalent share(7): $ 0.05 $ (0.01) $ (0.94) $ (0.39) $ (1.29) Diluted earnings (loss) per common equivalent share(7): $ * $ * $ * $ * $ * 1996 Operating revenues $ 66,691 $ 87,056 $ 76,461 $ 83,464 $ 313,672 Operating income (loss) (6,673) 11,449 (5,738) 3,699 (5) 2,737 Earnings (loss) from continuing operations (6,592) 4,379 (4,147) 13,797 (6) 7,437 Discontinued operations (less applicable tax benefit) (2,481) (16,897) 107 80 (19,191) Net earnings (loss) $(9,073) $(12,518) $ (4,040) $ 13,877 $ (11,754) Basic earnings (loss) per common equivalent share(7): Continuing operations (0.41) $ 0.27 $ (0.25) $ 0.90 $ 0.46 Discontinued operations (0.15) (1.03) 0.01 0.01 (1.19) ----- ----- ---- ---- ----- Net earnings (loss) $(0.56) $ (0.76) $ (0.24) $ 0.91 $ (0.73) ====== ======= ======== ======== ========= Diluted earnings (loss) per common equivalent share(7): Continuing operations $ * $ * $ * $ 0.70 $ * Discontinued operations * * * 0.01 * ---- ---- ---- ---- ---- Net earnings (loss) $ * $ * $ * $ 0.71 $ * ====== ======= ======== ======== ========= * Amounts are anti-dilutive. (1) - As a result of the Purchase, beginning September 18, 1997, the Company reports its share of World Airways' results of operations under the equity method of accounting. As a result, during the fourth quarter, operating revenues and expenses relate entirely to the operations of WorldCorp (Notes 1 and 4). (2) - Operating expenses include a $1.0 million reversal of accrued maintenance expense in excess of the cost of an overhaul of a DC-10 aircraft. (3) - Operating expenses include a $2.3 million reversal of aircraft costs incurred in 1996 and the first six months of 1997, relating to reimbursements for disputed spare engine lease charges (see Note 13). (4) - Includes a $17.6 million gain on the sale of World Airways' stock, offset by a $8.7 million loss on purchases of equity by World Airways, and a write-off of approximately $20.3 million of restructuring charges by InteliData. (5) - Includes a net gain of $37.1 million on issuances (purchases) of equity by subsidiaries (see Notes 4 and 5). (6) - Includes the reversal of maintenance costs, which had been accrued throughout 1996, of $1.5 million relating to the termination of two DC10-30 aircraft in December 1996 (see Notes 6 and 13). (7) - Earnings per share for the periods presented have been calculated in accordance with Financial Accounting Standard Board's Statement of Financial Accounting Standard No. 128, Earnings Per Share. 23. SUBSEQUENT EVENT On April 20, 1998, WorldCorp consummated a transaction pursuant to which it acquired an 80% interest in Paper Acquisition Corp., a Delaware corporation ("Paper"). Paper was organized by Sun Capital Partners, Inc. ("Sun Capital") to acquire and operate specialty paper businesses. In December 1996, Paper acquired and consolidated two companies that produce a variety of coated papers and specialty inks which are sold to business forms manufacturers. For the 12 months ended December 31, 1997, Paper had approximately $48 million (unaudited) of sales. Pursuant to the transaction, (i) WorldCorp exchanged seven-year warrants to acquire 35% (after the exercise of such warrants and the WorldCorp Acquisition Corp. options described below) of the issued and outstanding capital stock of WorldCorp Acquisition Corp., a Delaware corporation ("WorldCorp Acquisition"), held by WorldCorp for certain of the shares of Paper held by the Paper shareholders (the warrants are exercisable after one-year, at an exercise price of 125% of the estimated fair market value of the WorldCorp Acquisition stock at April 20, 1998 and payable with a seven-year, full-recourse, interest only note) (ii) WorldCorp contributed all of its shares of World Airways and the Paper shares received above, to WorldCorp Acquisition Corp., in exchange for 80% of the issued and outstanding capital stock of WorldCorp Acquisition and (iii) the holders of Paper contributed their shares of capital stock of Paper in exchange for (A) 20% of the issued and outstanding capital stock of WorldCorp Acquisition, (B) the assumption of approximately $15 million of debt, net of cash and investments, of Paper, (C) $15 million of 8% interest only promissory notes of WorldCorp Acquisition due in April 2003, (D) $1 million of 8% promissory notes of WorldCorp Acquisition due in March 1999 and (E) an earn-out based on the earnings before interest, taxes, depreciation and amortization of Paper during the next five years. The earn-out is payable, including interest at 10%, in September 2002. WorldCorp has pledged all of its shares of common stock of both WorldCorp Acquisition and InteliData, and WorldCorp Acquisition has pledged all of its shares of common stock of both World Airways and Paper to current Paper shareholders to collateralize the notes and the earn-out. The notes contain various restrictive covenants, including dividend restrictions on WorldCorp and its subsidiaries, limitations on transfers of cash to WorldCorp, as well as cross-default provisions. Upon an event of default, the noteholders may assume control of the WorldCorp Acquisition board and the pledged collateral. WorldCorp and WorldCorp Acquisition have entered into a consulting agreement with Sun Capital, which through an affiliate owned approximately 85% of the issued and outstanding shares of Paper immediately prior to the transaction, pursuant to which Sun Capital will receive $500,000 per year for financial consulting. Sun Capital also received seven-year options to acquire approximately 20% and 10% (after the exercise of such options and the warrants described above) of the issued and outstanding shares of common stock of WorldCorp and WorldCorp Acquisition, respectively, which options vest over five years. The exercise prices of these options is 125% of the fair market value of the underlying stock at April 20, 1998 and are payable with seven-year full recourse interest only notes. The WorldCorp Board of Directors unanimously approved the acquisition of Paper because, among other things, Paper will provide WorldCorp and WorldCorp Acquisition with a platform for WorldCorp and WorldCorp Acquisition to pursue their growth strategy and with additional operating cash flow. Although the acquisition of Paper will not resolve WorldCorp's liquidity issues, it is intended to build long-term value for WorldCorp's stockholders. INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders WorldCorp, Inc.: We have audited the accompanying consolidated balance sheets of WorldCorp, Inc. and subsidiaries (WorldCorp) as of December 31, 1997 and 1996, and the related consolidated statements of operations, changes in common stockholders' deficit and cash flows for each of the years in the three-year period ended December 31, 1997. In connection with our audits of the consolidated financial statements, we also have audited the related financial statement schedule as listed in Item 14(a)(2) herein. These consolidated financial statements and financial statement schedule are the responsibility of WorldCorp's management. Our responsibility is to express an opinion on these consolidated financial statements and financial statement schedule based on our audits. We did not audit the consolidated financial statements of InteliData Technologies Corporation and subsidiaries ("InteliData"), a 29.4% and 28.9% investee company, as of and for the years ended December 31, 1997 and 1996, respectively. WorldCorp's investment in InteliData was $ 10.4 million and $ 37.4 million at December 31, 1997 and 1996, respectively, and its equity in the loss of InteliData was $ 26.5 million and $ 31.8 million for the years ended December 31, 1997 and 1996, respectively. The consolidated financial statements of InteliData were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the amounts included for InteliData, 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 provide a reasonable basis for our opinion. In our opinion, based on our audits and the report of the other auditors, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of WorldCorp, Inc. and subsidiaries as of December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the years in the three- year period ended December 31, 1997, in conformity with generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 2 to the consolidated financial statements, in order to meet its debt service obligations for 1998, the Company must obtain additional financing, refinance existing borrowings or obtain concessions from its lenders. These matters raise substantial doubt about the Company's ability to continue as a going concern. Management's plans in regard to these matters are also described in Note 2. The consolidated financial statements and financial statement schedule do not include any adjustments that might result from the outcome of this uncertainty. KPMG PEAT MARWICK LLP Washington, D.C. February 16, 1998, except as to notes 2 and 23, which are as of April 20, 1998 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Directors The Company incorporates herein by reference the information concerning directors contained in its Notice of Annual Stockholder's Meeting and Proxy Statement to be filed within 120 days after the end of the Company's fiscal year (the "1998 Proxy Statement"). Executive Officers The following table sets forth the names and ages of all executive officers of the Company and all positions and offices within the Company presently held by such executive officers: Name Age Position Held T. Coleman Andrews, III 43 Chairman of the Board, Director and of WorldCorp and Chairman of the Board and Director of World Airways and InteliData Patrick F. Graham 58 President, Chief Executive Officer, Principal Accounting Officer and Director of WorldCorp, and Director of InteliData Mr. T. Coleman Andrews III was elected Chairman of the Board in 1997. Prior to that he served as Chief Executive Office and President since June 1987. He has served as Chairman of the Board of World Airways since 1986. On March 14, 1997, World Airways announced that Charles W. Pollard departed as President and Chief Executive Officer. Pursuant to the Company's bylaws, Mr. Andrews acted as President and Chief Executive Officer on an interim basis pending the hiring of Russell L. Ray Jr. as Chief Executive Officer in April, 1997. He has served as a Director of InteliData Technologies Corporation (and its predecessor, US Order, Inc.) since 1990. From 1978 through 1986, he was affiliated with Bain & Company, Inc. an international strategy consulting firm. At Bain, he was elected partner in 1982 and was a founding general partner in 1984 of the Bain Capital Fund, a private venture capital partnership. Prior to his experience with Bain, Mr. Andrews served in several appointed positions in the White House for the Ford Administration. Mr Patrick F. Graham was appointed as President and Chief Operating Officer of World Corp in November 1997. Mr. Graham has been a director of WorldCorp since October 1992. Prior to joining WorldCorp Mr. Graham was a Director of Bain & Company, Inc., a management consulting firm based in Boston, Massachusetts. Mr. Graham co- founded the firm in 1973. In addition to his primary responsibilities with Bain clients, he has also served as Bain's Vice Chairman and Chief Financial Officer. Prior to the start of Bain & Company, Mr. Graham was Group Vice President with the Boston Consulting Group. His previous experience also includes positions with IBM, Ford Motor Company, and as a captain in the U.S. Army. Mr. Graham received an M.B.A. with Distinction from Stanford University's Graduate School of Business. He holds a B.A. from Knox College, where he graduated magna cum laude, was elected to Phi Beta Kappa and is currently on the Board of Trustees. Mr. Graham also serves as a director of InteliData Technologies Corporation. Beneficial Ownership Reporting The Company incorporates herein by reference the information required by Item 405 of Regulation S-K contained in its 1998 Proxy Statement. ITEM 11. EXECUTIVE COMPENSATION The Company incorporates herein by reference the information concerning executive compensation contained in the 1998 Proxy Statement. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The Company incorporates herein by reference the information concerning security ownership of certain beneficial owners and management contained in the 1998 Proxy Statement. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The Company incorporates herein by reference the information concerning certain relationships and related transactions contained in the 1998 Proxy Statement. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this report: (1) Financial Statements The following consolidated financial statements of WorldCorp, Inc. and subsidiaries are filed herewith: Consolidated Balance Sheets, December 31, 1997 and 1996 Consolidated Statements of Operations, Years Ended December 31, 1997, 1996, and 1995 Consolidated Statements of Changes in Common Stockholders' Deficit, Years Ended December 31, 1997, 1996 and 1995 Consolidated Statements of Cash Flows, Years Ended December 31, 1997, 1996 and 1995 Notes to Consolidated Financial Statements Independent Auditors' Report (2) Financial Statement Schedule Schedule Number II. Valuation and Qualifying Accounts NOTE: All other schedules are omitted because the requisite information is either presented in the financial statements or notes thereto or is not present in amounts sufficient to require submission of the schedules. Status of Prior Documents WorldCorp's Annual Report on Form 10-K for the year ended December 31, 1997, at the time of filing with the Securities and Exchange Commission, shall modify and supersede all prior documents filed pursuant to Sections 13, 14, and 15(d) of the Securities Exchange Act of 1934 for purposes of any offers or sales of any securities after the date of such filing pursuant to any Registration Statement or Prospectus filed pursuant to the Securities Act of 1933, as amended, which incorporates by reference such Annual Report on Form 10-K. (3) Index to Exhibits Exhibit No. Exhibit 3.1 Certificate of Incorporation of WorldCorp, Inc. dated March 16, 1987. (Filed as Exhibit 3.1 to WorldCorp, Inc.'s Registration Statement on Form S-4 (Commission File No. 33012735) filed on March 19, 1987 and incorporated herein by reference.) 3.2 Amended and Restated Bylaws of WorldCorp, Inc. dated November 13, 1987. (Filed as Exhibit 3.1 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1987 and incorporated herein by reference.) 4.6 First Supplemental Indenture dated as of February 22, 1994 between WorldCorp, Inc. and The First National Bank of Boston, as Trustee. (Filed as Exhibit 4.6 to WorldCorp, Inc's Form S-3 Registration Statement (Commission file No. 33-60247) filed on June 15, 1995 and incorporated herein by reference.) 4.8 Stock Option Agreement dated as of April 1, 1995 between WorldCorp, Inc. and Patrick F. Graham. (Filed as Exhibit 4.8 to WorldCorp Inc's Form S-3 Registration Statement (Commission file No. 33-60247) filed on June 15, 1995 and incorporated herein by reference.) 10.1 Merger Agreement and Plan of Reorganization dated as of April 28, 1987 by and among World Airways, Inc., World Merger Corporation and WorldCorp, Inc. (Filed as Exhibit 10.50 to WorldCorp, Inc.'s Form S-2 Registration Statement (Commission File No. 33-1358276) filed on July 31, 1987 and incorporated herein by reference.) 10.2 Form of Assumption Agreement dated as of June 23, 1987 among WorldCorp, Inc., World Airways, Inc. and each Indemnified Party (Filed as Exhibit 10.60 to WorldCorp, Inc.'s Form S-2 Registration Statement (Commission File No. 33-1358276) filed on July 31, 1987 and incorporated herein by reference.) 10.3 Agreement between World Airways, Inc. and Flight Attendants represented by International Brotherhood of Teamsters. (Filed reference as Exhibit 10.67 to WorldCorp, Inc.'s Form S-3 Registration Statement (Commission File No. 2-91998) filed on December 10, 1987 and incorporated herein by reference.) 10.4 Office Lease - The Hallmark Building dated as of May 16, 198 between WorldCorp, Inc. and GT Renaissance Centre Limited Partnership. (Filed as Exhibit 10.36 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1989 and incorporated herein by reference.) 10.5 Lease Amendment dated as of June 27, 1989 between WorldCorp, Inc and GT Renaissance Centre Limited Partnership. (Filed as Exhibit 10.37 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1989 and incorporated herein by reference.) 10.6 Office Lease - The Hallmark Building dated as of September 20, 1989 between World Airways, Inc. and GT Renaissance Centre Limited Partnership. (Filed as Exhibit 10.38 to WorldCorp, Inc's Annual Report on form 10-K for the fiscal year ended December 31, 1989 and incorporated herein by reference.) 10.7 Warrant Agreement dated as of July 22, 1989 between WorldCorp, Inc. and Charles W. Pollard. (Filed as Exhibit 10.45 to WorldCorp Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1989 and incorporated herein by reference.) 10.8 WorldCorp, Inc. Employee Savings and Stock Ownership Plan. (Filed as Exhibit 10.49 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1989 and incorporated herein by reference.) 10.9 Amendment No. 1 to WorldCorp Inc. Employee Savings and Stock Ownership Plan. (Filed as Exhibit 10.50 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1989 and incorporated herein by reference.) 10.10 Aircraft Lease Agreement dated as of January 15, 1991 between World Airways, Inc. and First Security Bank of Utah, N.A., not in its individual capacity, but solely as Owner Trustee. (Filed as Exhibit 10.47 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1990 and incorporated herein by reference.) 10.11 Aircraft Lease Agreement for Aircraft Serial Number 48518 dated as of September 30, 1992 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.12 Aircraft Lease Agreement for Aircraft Serial Number 48519 dated as of September 30, 1992 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.13 Aircraft Lease Agreement for Aircraft Serial Number 48633 dated as of September 30, 1992 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.14 Aircraft Lease Agreement for Aircraft Serial Number 48631 dated as of September 30, 1992 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.15 Aircraft Lease Agreement for Aircraft Serial Number 48632 dated as of September 30, 1992 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.16 Accounts Receivable Management and Security Agreement dated as of December 7, 1993 between World Airways, Inc. and BNY Financial Corporation. Incorporated herein by reference. 10.17 Amendment No. 1 To Aircraft Lease Agreement for Aircraft Serial Number 48518 dated as of November 1993 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.18 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48518 dated as of March 8, 1993 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.19 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48437 dated as of March 31, 1993 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.20 Amendment No. 3 to Aircraft Lease Agreement for Aircraft Serial Number 48437 dated as of April 15, 1993 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.21 Acquisition Agreement Among VISA International Service Association, US Order, Inc, and WorldCorp, Inc, dated as of July 15, 1994. Incorporated herein by reference. 10.22 Stock Purchase Agreement by and among World Airways, Inc., WorldCorp, Inc., and Malaysian Helicopter Services Berhad dated as of October 30, 1993. Incorporated herein by reference. 10.23 Stock Registration Rights Agreement between World Airways, Inc. and Malaysian Helicopter Services Berhad dated as of October 30, 1993. Incorporated herein by reference. 10.24 Shareholders Agreement between Malaysian Helicopter Services Berhad and WorldCorp, Inc., and World Airways, Inc. dated as of February 3, 1994. Incorporated herein by reference. 10.25 Amendment No. 1 to Shareholders Agreement dated as of February 28, 1994, among WorldCorp, World Airways, and MHS. Incorporated herein by reference. 10.26 Stock Option Agreement dated as of August 1, 1994 ("Grant Date") between WorldCorp, Inc. and William F. Gorog. Incorporated herein by reference. 10.27 Employment Agreement dated as of August 1, 1994 between US Order, Inc. and John C. Backus, Jr. Incorporated herein by reference. 10.28 Employment Agreement dated as of August 19, 1994 between WorldCorp, Inc. and T. Coleman Andrews, III. Incorporated herein by reference. 10.29 Stock Option Agreement dated as of August 19, 1994 ("Grant Date") by and between WorldCorp, Inc. and T. Coleman Andrews, III. Incorporated herein by reference. 10.30 Agreement between World Airways, Inc. and the International Brotherhood of Teamsters representing the Cockpit Crewmembers employed by World Airways, Inc. dated August 15, 1994-June 30, 1998. Incorporated herein by reference. 10.31 Aircraft Services Agreement dated September 26, 1994 by and between World Airways, Inc. ("World") and Malaysian Airlines. Incorporated herein by reference. 10.32 Freighter Services Agreement dated October 1, 1994 by and between World Airways, Inc. and Malaysian Airline System Berhad. Incorporated herein by reference. 10.33 World Airways, Inc. 1995 AMC Contract F11626-94-D0027 dated October 1, 1994 between World Airways, Inc. and Air Mobility Command. Incorporated herein by reference. 10.34 Stock Purchase Agreement (the "Agreement") dated as of December 31, 1994 by and between MHS Berhad, a Malaysian corporation (the "Shareholder") and WorldCorp, Inc., a Delaware corporation (the "Purchaser"). Incorporated herein by reference. 10.35 Amendment No. 1 to Passenger Aircraft Services and Freighter Services Agreement dated December 31, 1994 by and between World Airways, Inc. and Malaysian Airline System Berhad. Incorporated herein by reference. 10.36 Customer Agreement between WorldCorp ESSOP and Scott & Stringfellow, Inc. dated January 11, 1995 for a margin loan. Incorporated herein by reference. 10.37 Side Letter dated January 11, 1995 from Scott & Stringfellow, Inc. to William F. Gorog, Trustee of WorldCorp Employee Savings and Stock Ownership Plan for a margin loan to the WorldCorp ESSOP. Incorporated herein by reference. 10.38 Guarantee Agreement dated January 11, 1995 by WorldCorp, Inc. ("Guarantor") for the benefit of Scott & Stringfellow, Inc. (the "Lender"). Incorporated herein by reference. 10.39 Registration Rights Agreement dated as of January 11, 1995 by and between WorldCorp, Inc. and Scott & Stringfellow, Inc. Incorporated herein by reference. 10.40 Side Letter dated January 11, 1995 from WorldCorp, Inc. to Scott & Stringfellow, Inc. regarding commitment to make contributions to the WorldCorp Employee Savings and Stock Ownership Plan (the "ESSOP"), for the duration of the Scott & Stringfellow loan to the ESSOP. Incorporated herein by reference. 10.41 Amendment No. 2 to Passenger Aircraft Services and Freighter Aircraft Service Agreement dated February 9, 1995 by and between World Airways, Inc. and Malaysian Airline System Berhad. Incorporated herein by reference. 10.42 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48519 dated as of April 23, 1993 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.43 Amendment No. 3 to Aircraft Lease Agreement for Aircraft Serial Number 48519 dated as of April 1993 between World Airways, Inc. and International Lease Finance. Incorporated herein by reference. 10.44 Aircraft Lease Agreement for Aircraft Serial Number 48437 dated as of September 30, 1992 between World Airways, Inc. and International Lease Finance Corporation. Incorporated herein by reference. 10.45 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48631 dated as of April 28, 1995 between World Airways, Inc. and International Lease Finance Corporation. 10.46 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48632 dated as of April 28, 1995 between World Airways, Inc and International Lease Finance Corporation. Incorporated herein by reference. 10.47 Amendment (No. 1) to the Accounts Receivable Management and Security Agreement between World Airways, Inc. and BNY Financial Corporation dated March 15, 1995 and effective as of January 1, 1995. Incorporated herein by reference. 10.48 Amendment No. 2 to the Accounts Receivable Management and Security Agreement between World Airways, Inc. and BNY Financial Corporation dated August 1995. Incorporated herein by reference. 10.49 Long Term Aircraft Charter Agreement dated August 20, 1986 between World Airways, Inc. and Malaysian Airline System Berhad. Incorporated herein by reference. 10.50 Amendment dated April 10, 1991 to the Long Term Aircraft Charter Agreement dated August 20, 1986 between World Airways, Inc. and Malaysian Airline System Berhad. Incorporated herein by reference. 10.51 Amendment No. 3 to the Freighter Services Agreement by and between World Airways, Inc. and Malaysian Airline System Berhad dated May, 1995. Incorporated herein by reference. 10.52 FY1996 Contractor Team Agreement among World Airways, Inc., Continental Airlines, Inc., Emery Worldwide Airlines, Inc., Evergreen International Airlines, Inc., Miami Air International, Inc., Northwest Airlines, Inc. and Rich International Airways, Inc. dated April 3, 1995. Incorporated herein by reference. 10.53 Maintenance Agreement between Malaysian Airline System Berhad and World Airways, Inc. dated March 1, 1995. Incorporated herein by reference. 10.54 Form of Master Services Agreement between World Airways, Inc. and the Company. Incorporated herein by reference. 10.55 1996 U.S. Air Force Contract dated October 1, 1995 between World Airways, Inc. and Air Mobility Command. Incorporated herein by reference. 10.56 Amendment No. 3 to the Accounts Receivable Management and Security Agreement between World Airways, Inc. and BNY Financial Corporation dated as of September 28, 1995. Incorporated herein by reference. 10.57 Amendment No. 4 to the Accounts Receivable Management and Security Agreement between World Airways, Inc. and BNY Financial Corporation dated as of September 28, 1995. Incorporated herein by reference. 10.58 Form 10-K for the fiscal year ended December 31, 1997 for World Airways, Inc. Filed Herewith 10.59 Form 10-K for the fiscal year ended December 31, 1997 for InteliData Technologies Corporation, Inc. Filed Herewith 10.60 Employment Agreement, by and between the Company and T. Coleman Andrews, III Filed Herewith 10.61 Employment Agreement, by and between the Company and Patrick F. Graham Filed Herewith 11 Statement on Calculation of Earnings (Loss) Per Common Share. Filed Herewith 21 Subsidiaries of the Registrant WorldCorp, Inc. Filed Herewith 23.1 Consent of KPMG Peat Marwick LLP. Filed Herewith 23.2 Consent of Deloitte & Touche LLP. Filed Herewith 27 Financial Data Schedule for the year ended December 31, 1997. Filed Herewith 1 Confidential treatment of portions of the Agreement has been granted by the Commission. The copy filed as an exhibit omits the information subject to confidentiality request. Confidential portions so omitted have been filed separately with the Commission. (b) Reports on Form 8-K Form 8-K dated September 18, 1997 was filed with the Securities and Exchange Commission on October 3, 1997. * * * * * * * * * * * * * * 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. WORLDCORP, INC. By /s/ Patrick F. Graham Patrick F. Graham Chief Executive Officer, President, and Principal Accounting Officer 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/ Patrick F. Graham Chief Executive Officer, April 20, 1998 (Patrick F. Graham) President, and Principal Accounting Officer /s/ T. Coleman Andrews, III Director and April 20, 1998 (T. Coleman Andrews, III) Chairman of the Board /s/ Gideon Argov Director April 20, 1998 (Gideon Argov) /s/ James E. Colburn Director April 20, 1998 (James E. Colburn) /s/ William F. Gorog Director April 20, 1998 (William F. Gorog) SCHEDULE II WORLDCORP, INC. AND CONSOLIDATED SUBSIDIARIES VALUATION AND QUALIFYING ACCOUNTS For the years ended December 31, 1997, 1996 and 1995 (in thousands) Balance at Charged to Deductions Balance beginning costs and charged to at end of of period expenses reserves period --------- -------- -------- ------ Allowance for Doubtful Accounts Year ended December 31, 1997 $ 413 $ 413 (1) $ -- $ -- ======== ========= ====== ======= Year ended December 31, 1996 $ 322 $ 236 $ 145 $ 413 ======== ========= ====== ======= Year ended December 31, 1995 $ 81 $ 414 $ 173 $ 322 ======== ========= ====== ======= Valuation Allowance for Deferred Tax Assets Year ended December 31, 1997 $ 23,277 $ 6,207 $ -- $ 29,484 ======= ======= ====== ======= Year ended December 31, 1996 $ 20,113 $ 3,164 $ -- $ 23,277 ======= ======= ====== ======= Year ended December 31, 1995 $ 13,973 $ 6,140 $ -- $ 20,113 ======= ======= ====== ======= (1) Due to the Purchase, WorldCorp began reporting its share of World Airways' net assets and results of operations under the equity method of accounting as of September 18, 1997. Therefore, allowance for doubtful accounts relating to World Airways is not included in the December 31, 1997 consolidated balance sheet. EX-11 2 WORLDCORP EXHIBIT 11.1 WORLDCORP, INC. AND CONSOLIDATED SUBSIDIARIES CALCULATION OF EARNINGS (LOSS) PER COMMON SHARE For the Year Ended December 31, 1997 ------------------------------------ Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Net loss available to common shareholders $ (19,128,000) 14,804,356 $ (1.29) ========== Effect of Dilutive Securities 7% convertible debentures 4,550,000 5,877,034 --------- --------- Diluted EPS Net loss available to common stockholders $ (14,578,000) 20,681,390 $ * ============= ========== ============== For the Year Ended December 31, 1996 ------------------------------------ Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Net loss available to common stockholders $ (11,754,000) 16,153,227 $ (0.73) ======== Effect of Dilutive Securities Options -- 530,970 7% convertible debentures 4,550,000 5,877,034 --------- --------- Diluted EPS Net loss available to common stockholders $ (7,204,000) 22,561,231 $ * ============== ========== ============== For the Year Ended December 31, 1995 ------------------------------------ Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Net earnings available to common stockholders $ 60,208,000 15,988,365 $ 3.77 ======= Effect of Dilutive Securities Options -- 1,129,467 7% convertible debentures 4,550,000 5,877,034 --------- --------- Diluted EPS Net earnings available to common stockholders $ 64,758,000 22,994,866 $ 2.82 ============ ========== ============== * Amounts are anti-dilutive EX-21 3 WORLDCORP EXHIBIT 21.1 WORLDCORP, INC. AND CONSOLIDATED SUBSIDIARIES SUBSIDIARIES OF THE REGISTRANT Name Jurisdiction World Airways Cargo, Inc. Delaware WorldCorp Investments, Inc. Delaware EX-23 4 WORLDCORP EXHIBIT 23.1 CONSENT OF INDEPENDENT AUDITORS The Board of Directors and Stockholders WorldCorp, Inc.: We consent to the incorporation by reference in the registration statements (Nos. 333-19483, 33-46443, 33-62864 and 33-60247) on Form S-3, and (Nos. 33-51946, 33-33468 and 33-51944) on Form S-8 of WorldCorp, Inc. of our report dated February 16, 1998, except as to notes 2 and 23, which are as of April 20, 1998, relating to the consolidated balance sheets of WorldCorp, Inc. and subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of operations, changes in common stockholders' deficit and cash flows for each of the years in the three-year period ended December 31, 1997, and the related financial statement schedule, which report appears in the December 31, 1997 annual report on Form 10-K of WorldCorp, Inc. Our report dated February 16, 1998, except as to notes 2 and 23, which are as of April 20, 1998, contains an explanatory paragraph that states that in order to meet its debt service obligations for 1998, the Company must obtain additional financing, refinance existing borrowings or obtain concessions from its lenders which raise substantial doubt about its ability to continue as a going concern. The consolidated financial statements and financial statement schedule do not include any adjustments that might result from the outcome of that uncertainty. KPMG PEAT MARWICK LLP Washington, D.C. April 20, 1998 EX-23 5 WORLDCORP EXHIBIT 23.2 INDEPENDENT AUDITORS' CONSENT We consent to the inclusion and incorporation by reference of our report dated February 4, 1998, relating to the consolidated balance sheets of InteliData Technologies Corp. and subsidiaries as of December 31, 1997 and 1996, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the two years in the period ended December 31, 1997, whihc report appears in the December 31, 1997 annual report on Form 10-K of InteliData Technologies Corp. which is included in and incorporated by reference in the December 31, 1997 annual report on Form 10-K of WorldCorp, Inc. DELOITTE & TOUCHE LLP Hartford, Connecticut April 20, 1998 EX-27 6 FDS --
5 0000811664 WORLDCORP, INC 1,000 U.S. DOLLAR YEAR DEC-31-1995 JAN-01-1995 DEC-31-1995 1 78,661 0 19,895 322 0 110,924 72,528 17,878 202,089 71,302 0 0 0 16,354 (39,651) 202,089 0 246,572 0 240,279 (59,392) 0 12,586 64,819 661 64,158 (3,950) 0 0 60,208 3.77 2.82
EX-27 7 FDS --
5 0000811664 WORLDCORP, INC 1,000 U.S. DOLLAR YEAR DEC-31-1996 JAN-01-1996 DEC-31-1996 1 14,509 0 25,675 413 0 48,998 86,830 21,357 176,363 89,306 0 0 0 16,617 56,954 176,363 0 313,672 0 310,935 (5,772) 0 11,680 7,941 504 7,437 (19,191) 0 0 (11,754) (0.73) 0
EX-27 8 FDS --
5 0000811664 WORLDCORP, INC 1,000 U.S. DOLLARS YEAR DEC-31-1997 JAN-01-1997 DEC-31-1997 1 4,659 0 214 0 0 4,930 3,287 3,026 16,832 11,599 0 0 0 16,643 (76,573) 16,832 0 216,092 0 203,393 26,699 0 9,575 (18,778) 350 (19,128) 0 0 0 (19,128) (1.29) 0
EX-99 9 PAT GRAHAM EMPLOYMENT AGREEMENT EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT ("Agreement") is made as of the 16th day of November, 1997, by and between WORLDCORP, INC., a Delaware corporation, its successor and assigns ("WorldCorp") and PATRICK F. GRAHAM ("Graham"). RECITALS WHEREAS, WorldCorp desires to employ and retain Graham as its Chief Executive Officer and Graham desires to be employed by WorldCorp on the terms and in consideration of WorldCorp's provision of the benefits to be provided under this Agreement. WHEREAS, WorldCorp and Graham desire to set forth the terms of Graham's employment and the compensation and benefits to be provided by WorldCorp in this Agreement. TERMS IN CONSIDERATION OF the mutual covenants contained herein, WorldCorp and Graham agree as follows: 1. Employment. WorldCorp agrees to employ Graham and Graham agrees to be employed by WorldCorp on the terms and conditions hereinafter set forth. 2. Commencement Date and Term. The commencement date of this Agreement shall be as of November 16, 1997 (the "Commencement Date"). Subject to the provisions of Section 5, the term of Graham's employment hereunder shall be for two (2) years from the Commencement Date until and including November 15, 1999 (the "Original Expiration Date"); provided, however, that the term shall be extended automatically for an additional period of one (1) year commencing on the Original Expiration Date unless either WorldCorp or Graham gives written notice to the other, at least twelve (12) months prior to the Original Expiration Date, of its or his election not to extend the term of this Agreement; and provided, further, that the term as extended shall be further extended automatically for an additional period of one (1) year commencing on the first anniversary of the Original Expiration Date and on each subsequent anniversary thereafter, unless either WorldCorp or Graham gives written notice to the other, at least six (6) months prior to the date of any such anniversary, of its or his election not to further extend the term of this Agreement. The last day of the term as so extended from time to time is herein sometimes referred to as the "Expiration Date." 3. Positions and Duties. Graham shall serve WorldCorp as WorldCorp's Chief Executive Officer with the duties described in WorldCorp's Bylaws, as in effect on the Commencement Date, and in the attached Exhibit A to this Agreement, and such other duties as WorldCorp's Board of Directors (the "Board") shall reasonably assign from time to time. During his employment hereunder, Graham shall devote such time and effort as shall be reasonably required to discharge his duties hereunder. At all times during his employment hereunder, Graham shall continue to serve as a member of the Board, and Graham may also serve as a member of the board of directors or similar body of, or in other offices or positions with respect to, any other company or companies that are not direct commercial competitors of WorldCorp. Graham agrees to resign from the Board of Directors of WorldCorp upon and in connection with the termination of his employment, provided that all of the terms of this Agreement have been satisfied and all of WorldCorp's obligations hereunder have been fulfilled. 4. Compensation and Benefits. The compensation and benefits payable to Graham for all services rendered by Graham under this Agreement shall be as follows: (a) Salary. WorldCorp shall pay Graham a minimum salary at the rate of $350,000 per year. Such salary shall be (i) payable bi-monthly in accordance with WorldCorp's standard payroll policies (and prorated for any partial pay period), and (ii) subject to review and increase (but not decrease) at any time in the discretion of the Board. (b) Annual Bonus. Graham shall be entitled to receive an annual bonus of up to 75% of his annual salary to be determined in good faith by the Compensation Committee of WorldCorp's Board of Directors based upon WorldCorp's achievement of the performance goals set forth on Exhibit B attached to this Agreement. Such bonus shall be paid not later than April 15 of the calendar year following the calendar year to which it applies. In addition, Graham shall be entitled to participate in all bonus and incentive compensation plans or arrangements provided by WorldCorp to its officers and directors after the Commencement Date. (c) Business Expenses. WorldCorp shall reimburse Graham for all reasonable travel and other business expenses incurred by him in the performance of his duties and responsibilities, including without limitation any such expenses incurred in connection with Graham's commuting to and from his residence and WorldCorp offices (including air transportation, ground transportation (including provision of an automobile) and lodging (including maintenance of an apartment)), subject to and consistent with, in the case of periodic expense reimbursements, WorldCorp's policies with respect to substantiation and documentation as may be established by WorldCorp for all officers and directors from time to time. WorldCorp also agrees to provide for the payment of or to reimburse Graham for any legal fees and costs incurred in connection with the drafting, review and execution of this Agreement. (d) Stock Options. Graham shall be granted, subject to the Stock Option Agreements in the forms attached hereto as Exhibits C-1, C-2 and C-3, respectively: 1. Options (the "WorldCorp Term Options") to purchase 50,000 shares of WorldCorp's Common Stock, par value $.001 per share ("WorldCorp Common Stock") pursuant to the 1988 WorldCorp Stock Option Plan, or, if agreed to by WorldCorp and Graham, any stock option or incentive plan which is hereafter adopted by WorldCorp (the "Plan"), at an exercise price of $1.75, with such Options vesting with respect to an equal number of the total shares as of the end of each of the first twenty-four (24) calendar months following the Commencement Date. 2. Options to purchase 100,000 shares of WorldCorp's Common Stock (the "WorldCorp Performance Options") pursuant to the 1988 WorldCorp Stock Option Plan or, if agreed by WorldCorp and Graham, any stock option or incentive plan which is hereafter adopted by WorldCorp (the "Plan"), at an exercise price of $1.75, which Options shall vest in their entirety upon the tenth anniversary of the Commencement Date, subject to the following acceleration of such vesting: (i) the vesting of the Option as to the first 16,666.67 of the 100,000 WorldCorp Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $2.18; (ii) the vesting of the Option as to the second 16,666.67 of the 100,000 WorldCorp Performance Options shall be accelerated on and to the 21st day following any (20) trading-day period during which the Company's stock traded at or above $2.72; (iii) the vesting of the Option as to the third 16,666.67 of the 100,000 WorldCorp Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $3.40; (iv) the vesting of the Option as to the fourth 16,666.67 of the 100,000 WorldCorp Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $4.25; (v) the vesting of the Option as to the fifth 16,666.67 of the 100,000 WorldCorp Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $5.31; and (vi) the vesting of the Option as to the sixth 16,666.67 of the 100,000 WorldCorp Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $6.63. 3. Options (the Intelidata Term Options") to purchase 100,000 shares of Intelidata's Common Stock, par value $.001 per share ("Intelidata Common Stock") owned by WorldCorp, at an exercise price of $2.98, with such Options vesting with respect to an equal number of the total shares as of the end of each of the first twenty-four (24) calendar months following the Commencement Date. 4. Options to purchase 250,000 shares of Intelidata's Common Stock (the "Intelidata Performance Options") owned by WorldCorp, at an exercise price of $2.98, which Options shall vest in their entirety upon the tenth anniversary of the Commencement Date, subject to the following acceleration of such vesting: (i) the vesting of the Option as to the first 41,666 of the 250,000 Intelidata Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $3.72; (ii) the vesting of the Option as to the second 41,666 of the 250,000 Intelidata Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $4.65; (iii) the vesting of the Option as to the third 41,666 of the 250,000 Intelidata Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $5.81; (iv) the vesting of the Option as to the fourth 41,666 of the 250,000 Intelidata Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $7.26; (v) the vesting of the Option as to the fifth 41,666 of the 250,000 Intelidata Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $9.07; and (vi) the vesting of the Option as to the sixth 41,666 of the 250,000 Intelidata Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $11.33; 5. Options (the "World Airways Term Options") to purchase 30,000 shares of World Airways Common Stock, par value $.001 per share ("World Airways Common Stock") owned by WorldCorp, at an exercise price of $7.92, with such Options vesting with respect to an equal number of the total shares as of the end of each of the first twenty-four (24) calendar months following the Commencement Date. 6. Options to purchase 70,000 shares of World Airways Common Stock (the "World Airways Performance Options") owned by WorldCorp, at an exercise price of $7.92, which Options shall vest in their entirety upon the tenth anniversary of the Commencement Date, subject to the following acceleration: (i) the vesting of the Option as to the first 11,666 of the 70,000 World Airways Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $9.9; (ii) the vesting of the Option as to the second 11,666 of the 70,000 World Airways Performance Options shall be accelerated on and to the 21st day following any (20) trading-day period during which the Company's stock traded at or above $12.37; (iii) the vesting of the Option as to the third 11,666 of the 70,000 World Airways Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $15.46; (iv) the vesting of the Option as to the fourth 11,666 of the 70,000 World Airways Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $19.32; (v) the vesting of the Option as to the fifth 11,666 of the 70,000 World Airways Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $24.15; and (vi) the vesting of the Option as to the sixth 11,666 of the 70,000 World Airways Performance Options shall be accelerated on and to the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $30.18. The WorldCorp Term Options and WorldCorp Performance Options granted to Graham are intended to, and shall to the extent permitted by law be structured so as to, qualify as incentive stock options under Section 422 of the Internal Revenue Code of 1986, as amended. (e) Regular Benefits. Graham shall be entitled to participate in all benefit plans or arrangements available to officers or directors of WorldCorp, all as more specifically summarized on Exhibit D attached to this Agreement, including without limitation WorldCorp's Employee Savings and Stock Ownership Plan, any medical insurance, life insurance, long-term disability, retirement and security plans, savings and qualified or nonqualified retirement plans, and other benefit plans from time to time established for officers or directors of WorldCorp. During the term of this Agreement, WorldCorp shall maintain and pay the annual premiums on a term life insurance policy insuring Graham's life and providing for a death benefit of at least $5,000,000, and Graham shall be owner of and shall enjoy all incidents of ownership of such policy, including without limitation the right to designate one or more beneficiaries of, and to assign the ownership of, such policy from time to time. If any benefits to which Graham shall otherwise be entitled hereunder are not permitted to be provided to him under any applicable plan document or applicable law governing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equivalent benefits, taking into account service credits for such benefits, to Graham or his estate or beneficiaries. WorldCorp shall reimburse Graham on an annual basis for premiums paid by Graham with respect to a disability policy selected by Graham providing for benefits of up to 75% of Graham's average annual compensation (calculated in accordance with the terms of such policy), plus an amount sufficient to pay all federal, state and local taxes applicable to such payment. (f) Indemnification; Directors and Officers Liability Insurance. WorldCorp shall provide or cause to be provided to Graham indemnification against all expenses (including attorneys' fees), judgments, fines and amounts paid in settlement in connection with any threatened, pending or completed action, claim, suit or proceeding, whether civil, criminal, administrative or investigative (including an action by or in the right of WorldCorp) by reason of Graham serving or having served as an officer, director or employee of WorldCorp or any affiliate of WorldCorp. WorldCorp shall advance expenses (including attorneys' fees) incurred by Graham in the defense of any such action, claim, suit or proceeding, and WorldCorp shall maintain directors and officers liability insurance coverage (including without limitation coverage for claims pursuant to any state or federal securities law or regulation) upon substantially the same terms and conditions as set forth in the Indemnification Agreement dated as of the date of this Agreement between Graham and WorldCorp, Inc., a copy of which is attached as Exhibit E to this Agreement. The provisions of this Section 4(f) are intended to supplement and to be in addition to, and not to be in lieu of, any rights of Graham granted to WorldCorp's officers and directors under WorldCorp's charter, articles of incorporation, any other corporate document, or applicable law. 5. Termination and Termination Benefits. Notwithstanding the provisions of Section 2 of this Agreement, Graham's employment hereunder shall terminate under the following circumstances and shall be subject to the following provisions: (a) Death. In the event of Graham's death during Graham's employment hereunder, Graham's employment shall terminate on the date of his death. Notwithstanding such termination, Graham's estate or designated beneficiaries shall be entitled to receive (i) the salary specified under Section 4(a) above for a period of one (1) month following the date of death, (ii) any accrued portion of any bonus which is ultimately determined to have been payable to Graham and allocable to the period prior to death, and (iii) any benefits which shall have been provided to Graham under Section 4 to the extent permitted under any applicable plan documents. (b) Disability. If, due to any physical or mental illness, condition, dependency or incapacity (hereafter, "disability"), Graham shall be unable to adequately perform substantially all of his duties and responsibilities hereunder, and provided such disability continues for an uninterrupted period of at least twelve (12) months, (a) Graham's employment hereunder shall be deemed terminated as of the end of the relevant period of disability or, if later, the final determination of such disability, and (b) WorldCorp, acting through its Board and at any time prior to the expiration of any relevant period of disability and the final determination of such disability, may designate another executive to act in Graham's place during the period of such disability. In the event of any dispute as to whether Graham has suffered a disability justifying termination, such dispute shall be resolved at WorldCorp's cost by a panel of three physicians, one designated by Graham, one designated by WorldCorp, and a third designated by the first two panel members. Notwithstanding any termination of Graham's employment under this Section 5(b), WorldCorp shall continue to pay to Graham his full salary and benefits under Section 4 of this Agreement until the earlier of the date on which Graham becomes eligible for disability income payments under WorldCorp's disability income plan or the Expiration Date. While receiving disability income payments under such plan, WorldCorp shall continue to pay to Graham the difference between such disability income payments and his salary under Section 4 until the Expiration Date (but not any bonus, except as accrued through the date of determination of disability). Notwithstanding the termination of Graham's employment hereunder, Graham shall be entitled to continue participation in all medical and other benefit plans provided for under Section 4 for a period of time following such termination equal in length to the period of Graham's employment with WorldCorp. If any benefits to which Graham shall otherwise be entitled hereunder are not permitted to be provided to him under any applicable plan document or applicable law governing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equivalent benefits, taking into account service credits for such benefits, to Graham or his estate or beneficiaries. (c) Termination by WorldCorp for Cause. Subject to the provisions of this Section 5(c), Graham's employment hereunder may be terminated by WorldCorp for Cause. If the Board determines by the majority vote of its entire membership that Graham should be terminated for Cause, the Board shall send written notice to Graham setting forth in reasonable detail the nature of the Cause. No termination shall become effective under this Section 5(c) until (i) such vote is obtained and such notice is sent to and received by Graham, (ii) following Graham's receipt of such notice, Graham has been provided a reasonable opportunity to meet with the entire Board and discuss the Board's notice to him, and (iii) following such meeting, the Board ratifies its earlier vote to terminate Graham for Cause by a second vote of a majority of its entire membership. Only the following shall constitute "Cause" for such termination: (i) gross negligence, willful misconduct or dishonesty in office or breach of a material fiduciary duty owed to WorldCorp; (ii) conviction of a felony, a crime of moral turpitude or commission of an act of embezzlement or fraud against WorldCorp or any affiliate of WorldCorp; (iii) willful failure to perform a substantial portion of his duties and responsibilities hereunder (unless such failure results from Graham's illness or disability). (d) Termination by WorldCorp Without Cause. Graham's employment with WorldCorp may be terminated by WorldCorp without Cause provided that (i) such termination is approved by the affirmative vote of two-thirds (2/3) of all members of the Board, (ii) Graham is given at least ninety (90) days' prior written notice of such termination, and (iii) Graham shall be entitled to receive the benefits described herein and in Section 5(f) below. Notwithstanding the termination of Graham's employment hereunder, Graham shall be entitled to continue participation in all medical and other benefit plans provided for under Section 4 for a period following such termination equal to the period of Graham's employment with WorldCorp. If any benefits to which Graham shall otherwise be entitled hereunder are not permitted to be provided to him under any applicable plan document or applicable law governing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equivalent benefits, taking into account service credits for such benefits, to Graham or his estate or beneficiaries. (e) Termination by Graham. Graham may terminate his employment hereunder with or without Good Reason (as defined below) by giving the Board at least thirty (30) days' prior written notice of termination of his employment, and he shall not be required to render any further services to WorldCorp after the expiration of such thirty (30)-day period. In the event of termination for Good Reason, Graham shall specify in the notice the event or circumstances constituting Good Reason. In the event of termination by Graham for Good Reason, Graham shall be entitled to the compensation and benefits specified herein and in Section 5(f) below. In the event of termination by Graham without Good Reason, Graham shall be entitled to no further compensation or benefits under this Agreement other than any salary accrued prior to the effective date of such termination and the right to retain ownership of the life insurance policy described in Section 4(e) above. Notwithstanding the termination of Graham's employment hereunder, Graham shall be entitled to continue participation in all medical and other benefit plans provided for under Section 4 for a period following such termination equal to the period of Graham's employment with WorldCorp. If any benefits to which Graham shall otherwise be entitled hereunder are not permitted to be provided to him under any applicable plan document or applicable law governing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equivalent benefits, taking into account service credits for such benefits, to Graham or his estate or beneficiaries. Only the following shall constitute "Good Reason" for termination by Graham: (i) the relocation of WorldCorp's principal offices or headquarters or Graham's place of employment to a location which would make Graham's continued maintenance of his principal residence in Boston, Massachusetts, materially inconvenient to him; whether in terms of expense, commuting or travel time or other factors; (ii) the failure of Graham at any time to be elected to or to continue to be entitled to serve on the Board; (iii) the failure of WorldCorp to comply with the provisions of Section 4 of this Agreement or material breach by WorldCorp of any other provision of this Agreement, including without limitation WorldCorp's failure to make any payment under Section 4 within five (5) days of the due date of such payment or WorldCorp's failure to determine Graham's annual bonus in good faith and on a timely basis; (iv) the material diminishment or material change in the duties, responsibilities or position of Graham, (v) the discontinuation of, diminution in the benefits payable under, or material adverse amendment or alteration of, and whether it impacts all participants or only Graham individually, any compensation, bonus or benefit plan or arrangement in which Graham was entitled to participate as of the Commencement Date and which constitutes a material part of Graham's total compensation and benefits, unless an economically equivalent substitute arrangement or benefit acceptable to Graham is adopted for the benefit of Graham; (vi) the sale, acquisition, merger, consolidation, dissolution, liquidation, reorganization or other restructuring of WorldCorp; or (vii) the occurrence of a Change in Control (as defined in Section 5(g) below) with respect to WorldCorp. (f) Acceleration of Salary, Bonus and Benefits if Without Cause or for Good Reason. In the event of termination by WorldCorp without Cause and other than for death or disability, or by Graham with Good Reason, (i) WorldCorp shall within five (5) days after the date of termination pay Graham, in one lump-sum payment, the total undiscounted amount of his entire salary and bonus which would otherwise become due and payable under Sections 4(a) and 4(b) through the Expiration Date (or, in the case of any bonus not yet determined, such bonus shall be paid within five (5) days after the amount of such bonus is determined); (ii) any stock options to which Graham was or may have become entitled, whether or not granted or vested as of the date of termination, shall be immediately granted and become immediately vested and exercisable; and (iii) the regular benefits described in Section 4(e) shall continue to be provided to Graham at WorldCorp's expense as provided under Sections 5(d) and 5(e). In the event WorldCorp fails to make any payment or provide any benefit hereunder, the unpaid amount or value of the benefit will accrue interest at an annual rate equal to the prime rate charged by WorldCorp's primary depository bank plus 5%, and Graham shall be entitled to reimbursement of all costs, including reasonable attorneys' fees and costs, incurred by him as a result of any such nonpayment or any actions to collect the same. (g) Change in Control. As used herein, a "Change in Control" shall mean the occurrence of any of the following events or circumstances subsequent to the date of this Agreement, it being agreed that no circumstance or event occurring on or before the date of this Agreement shall constitute a Change in Control: (i) The acquisition by an individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934, as amended (the "Exchange Act") other than a trustee or other fiduciary holding securities under an employee benefit plan of WorldCorp (a "Person"), of beneficial ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act) of 20% or more of either the then outstanding shares of common stock of WorldCorp (the "Outstanding WorldCorp Common Stock") or the combined voting power of the then outstanding voting securities of WorldCorp entitled to vote generally in the election of directors (the "Outstanding WorldCorp Voting Securities"); (ii) There occurs any acquisition, merger or consolidation of WorldCorp, by, with or into any other corporation (other than a wholly-owned subsidiary of WorldCorp) and individuals who are directors of WorldCorp immediately prior to the time the agreement of acquisition, merger or consolidation is executed shall fail to constitute a majority of the board of directors of the survivor or successor company at any time after consummation of the transaction; or (iii) The shareholders of WorldCorp approve a sale or disposition by WorldCorp of all or substantially all of its assets or a plan of dissolution and liquidation of WorldCorp. (h) Gross-Up for Excise Taxes. In the event any payment under this Section 5 or otherwise to or for the benefit of Graham (determined without regard to any additional payments required under this Section 5(h))(a "Payment") would be subject to the excise tax imposed by Section 4999 of the Internal Revenue Code of 1986, as amended, or any interest or penalties are incurred by Graham with respect to such excise tax (collectively, the "Excise Tax"), then Graham shall be entitled to receive an additional payment (a "Gross-Up Payment") in an amount such that after payment by Graham of all taxes (including income taxes and interest and penalties imposed with respect to such taxes) and the Excise Tax imposed on the Gross-Up Payment, Graham retains an amount of the Gross-Up Payment equal to the Excise Tax imposed on the Payments. All determinations required to be made under this Section 5(h) shall be made by WorldCorp's regular independent auditors as of the date of termination of Graham's employment hereunder, and all fees and expenses of such auditors shall be borne by WorldCorp. 6. Company Property. Upon the termination of Graham's employment under this Agreement, Graham shall be entitled to retain, as his own property, mobile telephones, notebook computers and related peripherals, other electronic equipment, furnishings, and other property issued to Graham in the course of his employment. 7. Noncompete. For a period of one (1) year following the date of termination of Graham's employment hereunder other than by WorldCorp without Cause or by Graham for Good Reason, Graham will not, directly or indirectly, whether as an owner, partner, shareholder, consultant, agent, employee, co-venturer or otherwise, or through any other person or entity, engage in the business of selling and/or providing ACMI leases or any other business which is competitive with WorldCorp's business within WorldCorp's existing or expanded business markets. 8. Beneficiary. Any payments to which Graham is entitled under this Agreement shall, in the event of his death, be made to his wife or such other persons as Graham shall designate in writing to WorldCorp from time to time. If no such beneficiaries survive Graham, such payments shall be made to Graham's estate. 9. Arbitration of Disputes. Any controversy or claim arising out of or relating to the employment relationship between Graham and WorldCorp, this Agreement or any breach thereof shall be settled by arbitration in accordance with the laws of the Commonwealth of Virginia by three arbitrators, one of whom shall be appointed by WorldCorp, one by Graham and the third by the first two arbitrators. If the first two arbitrators cannot agree on the appointment of a third arbitrator, then the third arbitrator shall be appointed by the American Arbitration Association in Washington, D.C. Such arbitration shall be conducted in Washington, D.C. in accordance with the rules of the American Arbitration Association. Judgment upon the award rendered by the arbitrators may be entered in any court having jurisdiction thereof. The party against whom the arbitrators shall render an award shall pay the other party's reasonable attorneys' fees and other reasonable costs and expenses in connection with the enforcement of its rights under this Agreement (including the enforcement of any arbitration award in court), unless and to the extent the arbitrators shall determine that under the circumstances recovery by the prevailing party of all or a part of any such fees and costs and expenses would be unjust. 10. Assignment; Successors and Assigns, etc. Neither WorldCorp nor Graham may make any assignment of this Agreement or any interest herein, by operation of law or otherwise, without the prior written consent of the other party; provided, however, that WorldCorp may assign its rights under this Agreement without the consent of Graham in the event that WorldCorp shall hereafter effect a reorganization, consolidate with or merge into any other Person, or transfer all or substantially all of its properties or assets to any other Person. This Agreement shall inure to the benefit of and be binding upon WorldCorp and Graham, their respective successors, executors, administrators, heirs and permitted assigns. In the event of Graham's death prior to the completion by WorldCorp of all payments due him under this Agreement, WorldCorp shall continue such payments to Graham's beneficiary designated in writing to WorldCorp prior to his death (or to his estate, if he fails to make such designation). 11. Enforceability. If any portion or provision of this Agreement shall to any extent be declared illegal or unenforceable by a court of competent jurisdiction, then the remainder of this Agreement, or the application of such portion or provision in circumstances other than those as to which it is so declared illegal or unenforceable, shall not be affected thereby, and each portion and provision of this Agreement shall be valid and enforceable to the fullest extent permitted by law. 12. Waiver. No waiver of any provision hereof shall be effective unless made in writing and signed by the waiving party. The failure of any party to require the performance of any term or obligation of this Agreement, or the waiver by any party of any breach of this Agreement, shall not prevent any subsequent enforcement of such term or obligation or be deemed a waiver of any subsequent breach. 13. Notices. Any notices, request, demands and other communications provided for by this Agreement shall be sufficient if in writing and delivered in person or sent by registered or certified mail, postage prepaid (in which case notice shall be deemed to have been given on the third day after mailing), or by overnight delivery by a reliable overnight courier service (in which case notice shall be deemed to have been given on the day after delivery to such courier service) to Graham at the last address Graham has filed in writing with WorldCorp or, in the case of WorldCorp, at its main offices, attention of the Board. 14. Entire Agreement; Amendment. This Agreement may be amended or modified only by a written instrument approved by each of the Board of WorldCorp and the Compensation Committee thereof, signed by Graham and by a duly authorized representative of WorldCorp. This Agreement, constitutes the entire agreement between the parties with respect to the subject matter hereof and no agreements or representations, oral or otherwise, express or implied, with respect to the subject matter hereof have been made by either party which are not expressly set forth in this Agreement. 15. Governing Law. This is a Virginia contract and shall be construed under and be governed in all respects by the laws of the Commonwealth of Virginia, without giving effect to the choice of law principles of any state. [THIS SPACE INTENTIONALLY LEFT BLANK] IN WITNESS WHEREOF, this Agreement has been executed as a sealed instrument by WorldCorp, by its duly authorized officer, and by Graham, as of the date first above written. WORLDCORP, INC. By: Title: Date: PATRICK F. GRAHAM Date: Address: EX-99 10 T. COLEMAN ANDREWS, III EMPLOYMENT AGREEMENT WORLDCORP/COLEMAN ANDREWS EMPLOYMENT AGREEMENT THIS EMPLOYMENT AGREEMENT ("Agreement") is made as of the 1st day of October, 1997, by and between WORLDCORP, INC., a Delaware corporation, its successor and assigns ("WorldCorp") and T. COLEMAN ANDREWS, III ("Andrews"). RECITALS WHEREAS, Andrews has served as WorldCorp's Chairman and/or Chief Executive Officer since June 1987. WHEREAS, WorldCorp desires to continue to employ and retain Andrews as its Chairman and Andrews desires to be employed by WorldCorp on the terms and in consideration of WorldCorp's provision of the benefits to be provided under this Agreement. WHEREAS, WorldCorp and Andrews desire to set forth the terms of Andrews' employment and the compensation and benefits to be provided by WorldCorp in this Agreement. TERMS IN CONSIDERATION OF the mutual covenants contained herein, WorldCorp and Andrews agree as follows: 1. EMPLOYMENT. WorldCorp agrees to employ Andrews and Andrews agrees to continue in the employ of WorldCorp on the terms and conditions hereinafter set forth. 2. COMMENCEMENT DATE AND TERM. The commencement date of this Agreement shall be as of October 1, 1997 (the "Commencement Date"). Subject to the provisions of Section 5, the term of Andrews' employment hereunder shall be for two (2) years from the Commencement Date until and including September 30, 1999 (the "Original Expiration Date"); provided, however, that the term shall be extended automatically for an additional period of one (1) year commencing on the Original Expiration Date unless either WorldCorp or Andrews gives written notice to the other, at least twelve (12) months prior to the Original Expiration Date, of its or his election not to extend the term of this Agreement; and provided, further, that the term as extended shall be further extended automatically for an additional period of one (1) year commencing on the first anniversary of the Original Expiration Date and on each subsequent anniversary thereafter, unless either WorldCorp or Andrews gives written notice to the other, at least six (6) months prior to the date of any such anniversary, of its or his election not to further extend the term of this Agreement. The last day of the term as so extended from time to time is herein sometimes referred to as the "Expiration Date." 3. POSITIONS AND DUTIES. Andrews shall continue to serve WorldCorp as WorldCorp's Chairman with the duties described in WorldCorp's Bylaws, as in effect on the Commencement Date, and in the attached Exhibit A to this Agreement, and such other duties as WorldCorp's Board of Directors (the "Board") shall reasonably assign from time to time. During his employment hereunder, Andrews shall devote such time and effort as shall be reasonably required to discharge his duties hereunder. At all times during his employment hereunder, Andrews shall continue to serve as a member of the Board, and Andrews may also serve as a member of the board of directors or similar body of, or in other offices or positions with respect to, any other company or companies that are not direct commercial competitors of WorldCorp. Andrews agrees to resign from the Board of Directors of WorldCorp upon and in connection with the termination of his employment, provided that all of the terms of this Agreement have been satisfied and all of WorldCorp's obligations hereunder have been fulfilled. 4. COMPENSATION AND BENEFITS. The compensation and benefits payable to Andrews for all services rendered by Andrews under this Agreement shall be as follows: (a) SALARY. WorldCorp shall pay Andrews a minimum salary at the rate of $200,000 per year. Such salary shall be (i) payable quarterly in advance on the first day of each fiscal quarter of WorldCorp (and prorated for any partial fiscal quarter), and (ii) subject to review and increase (but not decrease) at any time in the discretion of the Board. (b) ANNUAL BONUS. Andrews shall be entitled to receive an annual bonus of up to 75% of his annual salary to be determined in good faith by the Compensation Committee of WorldCorp's Board of Directors based upon Andrew's contributions to WorldCorp's performance. Such bonus shall be paid not later than 30 days after receipt of audited financials from WorldCorp's accounting firm for the prior year. Andrews shall be entitled to participate in all bonus and incentive compensation plans or arrangements provided by WorldCorp to its officers and directors after the Commencement Date. (c) BUSINESS EXPENSES. In addition to any salary and bonus, WorldCorp shall reim burse Andrews for all reasonable travel and other business expenses incurred by him in the performance of his duties and responsibilities, subject to and consistent with WorldCorp's policies with respect to substantiation and documentation as may be established by WorldCorp for all officers and directors from time to time. (d) STOCK OPTIONS. In exchange for surrendering 200,000 unvested WorldCorp options at an exercise price of $4.50, Andrews shall be granted: 1) Options (the "WorldCorp Term Options") to purchase 50,000 shares of WorldCorp's Common Stock, par value $.001 per share ("WorldCorp Common Stock") pursuant to the 1995 WorldCorp Airways Stock Option Plan (the "Plan"), at an exercise price of $2.00 per share, as set forth in that certain Stock Option Agreement between WorldCorp and Andrews of even date herewith (the "Option Agreement"), a copy of which is attached as Exhibit B hereto. 2) Options (the "Intelidata Term Options") to purchase 50,000 shares of Intelidata's Common Stock, par value $.001 per share ("InteliData Common Stock") owned by WorldCorp, at an exercise price of $3.00 per share. 3) Options to purchase 75,000 shares of WorldCorp's Common Stock, (the "WorldCorp Performance Options") subject to the following vesting: (i) the Option as to the first 15,000 of the 75,000 WorldCorp Performance Options at an exercise price of $2.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $2.50; (ii) the Option as to the second 15,000 of the 75,000 WorldCorp Performance Options at an exercise price of $2.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $3.13; (iii) the Option as to the third 15,000 of the 75,000 WorldCorp Performance Options at an exercise price of $2.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $3.91; (iv) the Option as to the fourth 15,000 of the 75,000 WorldCorp Performance Options at an exercise price of $2.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $4.88; (v) the Option as to the fifth 15,000 of the 75,000 WorldCorp Performance Options at an exercise price of $2.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $6.10. 4) Options to purchase 75,000 shares of InteliData's Common Stock, (the "InteliData Performance Options") subject to the following vesting: . (i) the Option as to the first 15,000 of the 75,000 InteliData Performance Op tions at an exercise price of $3.00 shall vest on the 21st day following any twenty (20) trading-day pe riod during which the Company's stock traded at or above $3.75; (ii) the Option as to the second 15,000 of the 75,000 InteliData Performance Options at an exercise price of $3.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $4.69; (iii) the Option as to the third 15,000 of the 75,000 InteliData Performance Options at an exercise price of $3.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $5.86; (iv) the Option as to the fourth 15,000 of the 75,000 InteliData Performance Options at an exercise price of $2.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $7.32; (v) the Option as to the fifth 15,000 of the 75,000 InteliData Performance Options at an exercise price of $2.00 shall vest on the 21st day following any twenty (20) trading-day period during which the Company's stock traded at or above $9.16. WorldCorp agrees that each option agreement with respect to options to purchase Common Stock granted prior to the date hereof shall be amended such that (i) the definition of "Change in Con trol" for purposes of any such agreements and options shall have the meaning assigned to such term in the Option Agreement, and (ii) all terms and conditions of such options (other than exercise price, vesting and term absent acceleration) shall be as set forth in the Option Agreement. (e) REGULAR BENEFITS. WorldCorp shall reimburse Andrews on an annual basis, from October 1, 1997 through September 30, 2000, for the premiums paid by Andrews with respect to a $5,000,000 term life insurance policy (which policy shall be owned by Andrews), plus an amount suf ficient to pay all federal, state and local taxes applicable to such payment. Andrews shall be owner of and shall enjoy all incidents of ownership of such policy, including without limitation the right to designate one or more beneficiaries of, and to assign the ownership of, such policy from time to time. If any benefits to which Andrews shall otherwise be entitled hereunder are not permitted to be provided to him under any applicable plan document or applicable law govern ing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equiva lent benefits, taking into account service credits for such benefits, to Andrews or his estate or benefi ciaries. (f) FRINGE BENEFITS. WorldCorp agrees that each option agreement with respect to options to purchase Common Stock granted prior to the date hereof shall be amended such that (i) the definition of "Change in Control" for purposes of any such agreements and options shall have the meaning assigned to such term in the Option Agreement, and (ii) all terms and conditions of such op tions (other than exercise price, vesting and term absent acceleration) shall be as set forth in the Option Agreement. WorldCorp shall reimburse Andrews on an annual basis for premiums paid by Andrews with respect to a disability policy selected by Andrews providing for benefits of up to 75% of Andrews' average annual compensation (calculated in accordance with the terms of such policy), plus an amount sufficient to pay all federal, state and local taxes applicable to such payment. (g) INDEMNIFICATION; DIRECTORS AND OFFICERS LIABILITY INSURANCE. WorldCorp shall provide or cause to be provided to Andrews indemnification against all expenses (including attorneys' fees), judgments, fines and amounts paid in settlement in connection with any threatened, pending or completed action, claim, suit or proceeding, whether civil, criminal, administrative or investigative (in cluding an action by or in the right of WorldCorp) by reason of Andrews serving or having served as an officer, director or employee of WorldCorp or any affiliate of WorldCorp. WorldCorp shall advance expenses (including attorneys' fees) incurred by Andrews in the defense of any such action, claim, suit or proceeding, and WorldCorp shall maintain directors and officers liability insurance cov erage (including without limitation coverage for claims pursuant to any state or federal securities law or regulation) upon substantially the same terms and conditions as set forth in the Indemnification Agreement dated as of February 28, 1994 between Andrews and WorldCorp, Inc., a copy of which is attached as Exhibit D to this Agreement. The provisions of this Section 4(f) are intended to supple ment and to be in addition to, and not to be in lieu of, any rights of Andrews granted to WorldCorp's officers and directors under WorldCorp's charter, articles of incorporation, any other corporate docu ment, or applicable law. (h) SUPPLEMENTAL RETIREMENT BENEFITS. As soon as practicable after the Commence ment Date, WorldCorp and Andrews agree to negotiate and enter into a Supplemental Executive Re tirement Plan ("SERP") pursuant to which WorldCorp shall be obligated to pay to Andrews, or one or more beneficiaries to be designated by Andrews from time to time pursuant to the SERP, an annual benefit of at least $30,000 commencing upon the earliest to occur of (i) the date on which Andrews attains the age of 55 years, or (ii) the date of Andrews' death or disability, with such payments continu ing thereafter during Andrews' lifetime up to age 80, but in no case exceeding 25 years of benefits. The SERP and WorldCorp's obligations thereunder shall be funded through the use of either a "rabbi trust" or "secular trust," as requested by Andrews, and shall have such other terms and conditions as may be reasonably required to secure WorldCorp's payment obligations thereunder and defer Andrews' recognition of taxable income until payments are received. WorldCorp shall fund one-half (1/2) of its obligation hereunder as of January 2, 1998 and the remaining one-half (1/2) as of January 2, 1999, provided that, if requested by Andrews, the SERP shall otherwise be unfunded for purposes of income taxation to Andrews. WorldCorp and Andrews agree to negotiate in good faith toward the final execution of the SERP and related legal documents. As an alternative to and in lieu of the SERP, Andrews may elect to apply the present value of the SERP to a dollar-for dollar reduction in the loan payments due to WorldCorp by Andrews in Febru ary 1998, 1999, 2000, and 2001, respectively. (I) SUPPLEMENTAL INCENTIVE COMPENSATION FROM 1989 The remaining and final payment due to Andrews on January 2, 1998 of $655,365 will be made on that date. 5. TERMINATION AND TERMINATION BENEFITS. Notwithstanding the provisions of Section 2 of this Agreement, Andrews' employment hereunder shall terminate under the following circumstances and shall be subject to the following provisions: (a) DEATH. In the event of Andrews' death during Andrews' employment hereunder, Andrews' employment shall terminate on the date of his death. Notwithstanding such termination, Andrews' estate or designated beneficiaries shall be entitled to receive (i) the salary specified under Section 4(a) above for a period of one (1) month following the date of death, (ii) any accrued portion of any bonus which is ultimately determined to have been payable to Andrews and allocable to the period prior to death, (iii) any benefits which shall have been provided to Andrews under Section 4 to the ex tent permitted under any applicable plan documents, and (iv) any amounts payable to Andrews' estate or designated beneficiaries under the SERP. (b) DISABILITY. If, due to any physical or mental illness, condition, dependency or incapacity (hereafter, "disability"), Andrews shall be unable to adequately perform substantially all of his duties and responsibilities hereunder, and provided such disability continues for an uninterrupted period of at least twelve (12) months, (a) Andrews' employment hereunder shall be deemed terminated as of the end of the relevant period of disability or, if later, the final determination of such disability, and (b) WorldCorp, acting through its Board and at any time prior to the expiration of any relevant pe riod of disability and the final determination of such disability, may designate another executive to act in Andrews' place during the period of such disability. In the event of any dispute as to whether An drews has suffered a disability justifying termination, such dispute shall be resolved at WorldCorp's cost by a panel of three physicians, one designated by Andrews, one designated by WorldCorp, and a third designated by the first two panel members. Notwithstanding any termination of Andrews' em ployment under this Section 5(b), WorldCorp shall continue to pay to Andrews his full salary and ben efits under Section 4 of this Agreement until Andrews becomes eligible for disability income payments under WorldCorp's disability income plan. While receiving disability income payments un der such plan, WorldCorp shall continue to pay to Andrews the difference between such disability in come payments and his salary under Section 4 until the Expiration Date (but not any bonus, except as accrued through the date of determination of disability). Notwithstanding the termination of Andrews' employment hereunder, Andrews shall be entitled to continue participation in all medical and other benefit plans provided for under Section 4 for a period of time following such termination equal in length to the period of Andrews' employment with WorldCorp (commencing on September 4, 1986 and ending on the termination date). If any benefits to which Andrews shall otherwise be entitled here under are not permitted to be provided to him under any applicable plan document or applicable law governing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equivalent benefits, taking into account service credits for such benefits, to Andrews or his estate or beneficiaries. (c) TERMINATION BY WORLDCORP FOR CAUSE. Subject to the provisions of this Section 5(c), Andrews' employment hereunder may be terminated by WorldCorp for Cause. If the Board de termines by the majority vote of its entire membership that Andrews should be terminated for Cause, the Board shall send written notice to Andrews setting forth in reasonable detail the nature of the Cause. No termination shall become effective under this Section 5(c) until (i) such vote is obtained and such notice is sent to and received by Andrews, (ii) following Andrews' receipt of such notice, Andrews has been provided a reasonable opportunity to meet with the entire Board and discuss the Board's notice to him, and (iii) following such meeting, the Board ratifies its earlier vote to terminate Andrews for Cause by a second vote of a majority of its entire membership. Only the following shall constitute "Cause" for such termination: (i) gross negligence, willful misconduct or dishonesty in of fice or breach of a material fiduciary duty owed to WorldCorp; (ii) conviction of a felony, a crime of moral turpitude or commission of an act of embezzlement or fraud against WorldCorp or any affiliate of WorldCorp; (iii) willful failure to perform a substantial portion of his duties and responsibilities hereunder (unless such failure results from Andrews' illness or disability). (d) TERMINATION BY WORLDCORP WITHOUT CAUSE. Andrews' employment with WorldCorp may be terminated by WorldCorp without Cause provided that (i) such termination is ap proved by the affirmative vote of one-half (1/2) of all members of the Board, (ii) Andrews is given at least ninety (90) days' prior written notice of such termination, and (iii) Andrews shall be entitled to receive the benefits described herein and in Section 5(f) below. Notwithstanding the termination of Andrews' employment hereunder, Andrews shall be entitled to continue participation, on the same terms and conditions previously in place, in all medical and other benefit plans provided for under Sec tion 4 for a period following such termination of three years, or until comparable coverage acceptable to Andrews is obtained, whichever time period is lesser. If any benefits to which Andrews shall other wise be entitled hereunder are not permitted to be provided to him under any applicable plan document or applicable law governing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equivalent benefits, taking into account service credits for such benefits, to Andrews or his estate or beneficiaries. WorldCorp shall pay to Andrews an amount equal to the highest incentive bonus paid to Andrews for any of the three calendar years immediately preceding the date of termination, pro rated through his month of departure. (e) TERMINATION BY ANDREWS. Andrews may terminate his employment hereunder with or without Good Reason (as defined below) by giving the Board at least thirty (30) days' prior written notice of termination of his employment, and he shall not be required to render any further ser vices to WorldCorp after the expiration of such thirty (30)-day period. In the event of termination for Good Reason, Andrews shall specify in the notice the event or circumstances constituting Good Rea son. In the event of termination by Andrews for Good Reason, Andrews shall be entitled to the com pensation and benefits specified herein and in Section 5(f) below. In the event of termination by An drews without Good Reason, Andrews shall be entitled to no further compensation or benefits under this Agreement other than any salary accrued prior to the effective date of such termination, the right to retain ownership of the life insurance policy described in Section 4(e) above. Notwithstanding the ter mination of Andrews' employment hereunder, Andrews shall be entitled to continue participation in all medical and other benefit plans provided for under Section 4 for a period following such termination equal to the period of Andrews' employment with WorldCorp (commencing on September 4, 1986 and ending on the termination date). If any benefits to which Andrews shall otherwise be entitled hereunder are not permitted to be provided to him under any applicable plan document or applicable law govern ing the payment or provision of such benefits, WorldCorp shall pay or provide for payment of equiva lent benefits, taking into account service credits for such benefits, to Andrews or his estate or benefi ciaries. Only the following shall constitute "Good Reason" for termination by Andrews: (i) the reloca tion of WorldCorp's principal offices or headquarters or Andrews' place of employment to a location outside of the Washington, D.C. Standard Metropolitan Statistical Area; (ii) the failure of Andrews at any time to be elected to or to continue to be entitled to serve on the Board; (iii) the failure of WorldCorp to comply with the provisions of Section 4 of this Agreement or material breach by WorldCorp of any other provision of this Agreement, including without limitation WorldCorp's failure to make any payment under Section 4 within five (5) days of the due date of such payment or WorldCorp's failure to determine Andrews' annual bonus in good faith and on a timely basis; (iv) the material diminishment or material change in the duties, responsibilities or position of Andrews, (v) the discontinuation of, diminution in the benefits payable under, or material adverse amendment or alter ation of, and whether it impacts all participants or only Andrews individually, any compensation, bo nus or benefit plan or arrangement in which Andrews was entitled to participate as of the Commence ment Date and which constitutes a material part of Andrews' total compensation and benefits, unless an economically equivalent substitute arrangement or benefit acceptable to Andrews is adopted for the benefit of Andrews; (vi) the sale, acquisition, merger, consolidation, dissolution, liquidation, reorgani zation or other restructuring of WorldCorp; or (vii) the occurrence of a Change in Control (as defined in Section 5(g) below) with respect to WorldCorp. WorldCorp shall pay to Andrews an amount equal to the highest incentive bonus paid to Andrews for any of the three calendar years immediately preceding the date of termination pro rated through his month of departure. (f) ACCELERATION OF SALARY, BONUS AND BENEFITS IF WITHOUT CAUSE OR FOR GOOD REA SON. In the event of termination by WorldCorp without Cause and other than for death or disability, or by Andrews for Good Reason, (i) WorldCorp shall within five (5) days after the date of termination pay Andrews, in one lump-sum payment, the total undiscounted amount of his entire salary and bonus which would otherwise become due and payable under Sections 4(a) and 4(b) through the Expiration Date (or, in the case of any bonus not yet determined, such bonus shall be paid within five (5) days af ter the amount of such bonus is determined); (ii) any stock options to which Andrews was or may have become entitled, whether or not granted or vested as of the date of termination, shall be immediately granted and become immediately vested and exercisable; and (iii) the regular benefits described in Sec tion 4(e) shall continue to be provided to Andrews at WorldCorp's expense as provided under Sections 5(d) and 5(e). In the event WorldCorp fails to make any payment or provide any benefit hereunder, the unpaid amount or value of the benefit will accrue interest at an annual rate equal to the prime rate charged by WorldCorp's primary depository bank plus 5%, and Andrews shall be entitled to reimbursement of all costs, including reasonable attorneys' fees and costs, incurred by him as a result of any such nonpayment or any actions to collect the same. (g) CHANGE IN CONTROL. As used herein, a "Change in Control" shall mean the occur rence of any of the following events or circumstances subsequent to the date of this Agreement, it be ing agreed that no circumstance or event occurring on or before the date of this Agreement shall consti tute a Change in Control: (i) The acquisition by an individual, entity or group (within the meaning of Section 13(d)(3) or 14(d)(2) of the Securities Exchange Act of 1934, as amended (the "Exchange Act") other than a trustee or other fiduciary holding securities under an employee benefit plan of WorldCorp (a "Person"), of beneficial ownership (within the meaning of Rule 13d-3 promulgated under the Exchange Act) of 50% or more of either the then outstanding shares of common stock of WorldCorp (the "Outstanding WorldCorp Common Stock") or the combined voting power of the then outstanding voting securities of WorldCorp entitled to vote generally in the election of directors (the "Outstanding WorldCorp Voting Securities"); (ii) There occurs any acquisition, merger or consolidation of WorldCorp, by, with or into any other corporation (other than a wholly-owned subsidiary of WorldCorp) and individu als who are directors of WorldCorp immediately prior to the time the agreement of acquisition, merger or consolidation is executed shall fail to constitute a majority of the board of directors of the survivor or successor company at any time after consummation of the transaction; or (iii) The shareholders of WorldCorp approve a sale or disposition by WorldCorp of all or substantially all of its assets or a plan of dissolution and liquidation of WorldCorp. (h) GROSS-UP FOR EXCISE TAXES. In the event any payment under this Section 5 or otherwise to or for the benefit of Andrews (determined without regard to any additional payments re quired under this Section 5(h))(a "Payment") would be subject to the excise tax imposed by Section 4999 of the Internal Revenue Code of 1986, as amended, or any interest or penalties are incurred by Andrews with respect to such excise tax (collectively, the "Excise Tax"), then Andrews shall be enti tled to receive an additional payment (a "Gross-Up Payment") in an amount such that after payment by Andrews of all taxes (including income taxes and interest and penalties imposed with respect to such taxes) and the Excise Tax imposed on the Gross-Up Payment, Andrews retains an amount of the Gross- Up Payment equal to the Excise Tax imposed on the Payments. All determinations required to be made under this Section 5(h) shall be made by WorldCorp's regular independent auditors as of the date of termination of Andrews' employment hereunder, and all fees and expenses of such auditors shall be borne by WorldCorp. (I) After-tax, cash salary payments made to Andrews under the Change of Control provision herein will be applied to reduce the remaining loan payments due, if any, from Andrews in 1998, 1999, 2000, and 2001, respectively. 6. COMPANY PROPERTY. Upon the termination of Andrews' employment under this Agree ment, Andrews shall be entitled to retain, as his own property, mobile telephones, notebook computers and related peripherals, other electronic equipment, furnishings, and other property issued to Andrews in the course of his employment. 7. NONCOMPETE AND NONDISPARAGEMENT. For a period of one (1) year following the date of termination of Andrews' employment hereunder other than by WorldCorp without Cause or by Andrews for Good Reason, Andrews will not, directly or indirectly, whether as an owner, partner, shareholder, consultant, agent, employee, co-venturer or otherwise, or through any other person or en tity, engage in any business which is competitive with WorldCorp's business. Each party hereto agrees that during the effectiveness of and following termination of this Agreement for any reason, it will not make any disparaging statements, remarks or comments with respect to the remaining party, whether written or oral. 8. BENEFICIARY. Any payments to which Andrews is entitled under this Agreement shall, in the event of his death, be made to his wife or such other persons as Andrews shall designate in writing to WorldCorp from time to time. If no such beneficiaries survive Andrews, such payments shall be made to Andrews' estate. 9. ARBITRATION OF DISPUTES. Any controversy or claim arising out of or relating to the em ployment relationship between Andrews and WorldCorp, this Agreement or any breach thereof shall be settled by arbitration in accordance with the laws of the Commonwealth of Virginia by three arbitra tors, one of whom shall be appointed by WorldCorp, one by Andrews and the third by the first two ar bitrators. If the first two arbitrators cannot agree on the appointment of a third arbitrator, then the third arbitrator shall be appointed by the American Arbitration Association in Washington, D.C. Such arbi tration shall be conducted in Washington, D.C. in accordance with the rules of the American Arbitra tion Association. Judgment upon the award rendered by the arbitrators may be entered in any court having jurisdiction thereof. The party against whom the arbitrators shall render an award shall pay the other party's reasonable attorneys' fees and other reasonable costs and expenses in connection with the enforcement of its rights under this Agreement (including the enforcement of any arbitration award in court), unless and to the extent the arbitrators shall determine that under the circumstances recovery by the prevailing party of all or a part of any such fees and costs and expenses would be unjust. 10. ASSIGNMENT; SUCCESSORS AND ASSIGNS, ETC. Neither WorldCorp nor Andrews may make any assignment of this Agreement or any interest herein, by operation of law or otherwise, without the prior written consent of the other party; provided, however, that WorldCorp may assign its rights under this Agreement without the consent of Andrews in the event that WorldCorp shall hereafter effect a reorganization, consolidate with or merge into any other Person, or transfer all or substantially all of its properties or assets to any other Person. This Agreement shall inure to the benefit of and be binding upon WorldCorp and Andrews, their respective successors, executors, administrators, heirs and permit ted assigns. In the event of Andrews' death prior to the completion by WorldCorp of all payments due him under this Agreement, WorldCorp shall continue such payments to Andrews' beneficiary desig nated in writing to WorldCorp prior to his death (or to his estate, if he fails to make such designation). 11. ENFORCEABILITY. If any portion or provision of this Agreement shall to any extent be de clared illegal or unenforceable by a court of competent jurisdiction, then the remainder of this Agree ment, or the application of such portion or provision in circumstances other than those as to which it is so declared illegal or unenforceable, shall not be affected thereby, and each portion and provision of this Agreement shall be valid and enforceable to the fullest extent permitted by law. 12. WAIVER. No waiver of any provision hereof shall be effective unless made in writing and signed by the waiving party. The failure of any party to require the performance of any term or obligation of this Agreement, or the waiver by any party of any breach of this Agreement, shall not prevent any subsequent enforcement of such term or obligation or be deemed a waiver of any subse quent breach. 13. NOTICES. Any notices, request, demands and other communications provided for by this Agreement shall be sufficient if in writing and delivered in person or sent by registered or certified mail, postage prepaid (in which case notice shall be deemed to have been given on the third day after mailing), or by overnight delivery by a reliable overnight courier service (in which case notice shall be deemed to have been given on the day after delivery to such courier service) to Andrews at the last ad dress Andrews has filed in writing with WorldCorp or, in the case of WorldCorp, at its main offices, attention of the Board. 14. ENTIRE AGREEMENT; AMENDMENT. This Agreement may be amended or modified only by a written instrument approved by each of the Board of WorldCorp and the Compensation Committee thereof, signed by Andrews and by a duly authorized representative of WorldCorp. This Agreement, constitutes the entire agreement between the parties with respect to the subject matter hereof and no agreements or representations, oral or otherwise, express or implied, with respect to the subject matter hereof have been made by either party which are not expressly set forth in this Agreement. 15. GOVERNING LAW. This is a Virginia contract and shall be construed under and be governed in all respects by the laws of the Commonwealth of Virginia, without giving effect to the choice of law principles of any state. IN WITNESS WHEREOF, this Agreement has been executed as a sealed instrument by WorldCorp, by its duly authorized officer, and by Andrews, as of the date first above written. WORLDCORP, INC. By: Title: Date: T. COLEMAN ANDREWS, III Date: Address: EXHIBIT A DUTIES AND RESPONSIBILITIES A. Lead and coordinate the activities of the WorldCorp Airways Board of Directors related to general corporate governance. B. Review the strategic and financial progress of the business and, if appropriate, suggest to the Board strategic or financial issues that warrant consideration by the Board. C. Provide leadership, as requested by the CEO of WorldCorp or by the Board, for major transactions with vendors, financial providers or customers in situations that warrant such involvement. EX-99 11 WORLD AIRWAYS 10-K 1997 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 -------------- FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 -------------- For the fiscal year ended: DECEMBER 31, 1997 Commission File Number 0-26582 WORLD AIRWAYS, INC. (Exact name of registrant as specified in its charter) DELAWARE 94-1358276 (State of incorporation) (I.R.S. Employer Identification Number) 13873 Park Center Road, Suite 490, Herndon, VA 20171 (Address of Principal Executive Offices) (703) 834-9200 (Registrant's telephone number) Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Each Exchange on Which Registered Common Stock par value $.001 per share Nasdaq Stock Market Securities registered pursuant to Section 12(g) of the Act: NONE 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 State 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 held by non-affiliates of the registrant on March 13, 1998, was approximately $13,152,787. The number of shares of the registrant's Common Stock outstanding on March 13, 1998 was 7,230,064. DOCUMENTS INCORPORATED BY REFERENCE Portions of World Airways, Inc.'s Notice of Annual Stockholder's Meeting and Proxy Statement, to be filed within 120 days after the end of the registrant's fiscal year, are incorporated into Part III of this Report. WORLD AIRWAYS, INC. 1997 ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS Page PART I Item 1. Business...........................................................3 Item 2. Properties........................................................10 Item 3. Legal Proceedings.................................................10 Item 4. Submission of Matters to a Vote of Security Holders...............10 PART II Item 5. Market for Registrant's Common Stock and Related Security Holder Matters....................................................11 Item 6. Selected Financial Data...........................................12 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations.............................................13 Item 8. Financial Statements and Supplementary Data.......................26 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure..........................................55 PART III Item 10. Directors and Executive Officers of the Registrant................55 Item 11. Executive Compensation............................................56 Item 12. Security Ownership of Certain Beneficial Owners and Management....56 Item 13. Certain Relationships and Related Transactions....................56 PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K...57 PART I ITEM 1. BUSINESS World Airways was organized in March 1948 and became a wholly owned subsidiary of WorldCorp, Inc. ("WorldCorp") in a holding company reorganization in 1987. In February 1994, pursuant to an October 1993 agreement, WorldCorp sold 24.9% of its ownership to MHS Berhad ("MHS"), a Malaysian aviation company. Effective December 31, 1994, WorldCorp increased its ownership in the Company to 80.1% through the purchase of 5% of World Airways common stock held by MHS. In October 1995, the Company completed an initial public offering. Effective January 23, 1998, WorldCorp and MHS own 51.2% and 16.8%, respectively, of the outstanding common stock of World Airways, with the balance publicly traded. See "Management's Discussion and Analysis of Financial Condition and Results of Operations ("MD&A") - Background" for transactions effecting ownership of the Company. The Company desires to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995 (the "Act"). Therefore, this report contains forward looking statements that are subject to risks and uncertainties, including, but not limited to, the reliance on key strategic alliances, fluctuations in operating results and other risks detailed from time to time in the Company's filings with the Securities and Exchange Commission. These risks could cause the Company's actual results for 1998 and beyond to differ materially from those expressed in any forward looking statements made by, or on behalf of, the Company. The principal executive offices of World Airways are located at Washington Dulles International Airport in The Hallmark Building, 13873 Park Center Road, Herndon, Virginia 20171. World Airways' telephone number is (703) 834-9200. Overview World Airways is a global provider of long-range passenger and cargo air transportation outsourcing services to major international airlines under fixed rate contracts. Airline operations account for 100% of the Company's operating revenue and operating income. The Company's passenger and freight operations employ 12 wide-body aircraft which are operated under contracts, a substantial portion of which are with Pacific Rim airlines. These contracts generally require the Company to supply aircraft, crew, maintenance and insurance ("ACMI" or "wet lease"), while the Company's customers are responsible for a large portion of the other operating costs, including fuel. World Airways' airline customers have determined that outsourcing a portion of their wide-body passenger and cargo requirements can be less expensive, and offers greater operational and financial flexibility, than purchasing new aircraft and additional spare parts required for such aircraft. World Airways also leads a contractor teaming arrangement that is one of the largest suppliers of commercial aircraft to the United States Air Force's Air Mobility Command ("U.S. Air Force" or "USAF"). In July 1996, World Airways restructured its business to focus on ACMI contract services. As such, the Company ceased all scheduled passenger and scheduled charter services as of October 27, 1996, taking a one-time charge for estimated loss on disposal of $21.0 million as of June 30, 1996. World Airways' operating philosophy is to build on its existing ACMI relationships to achieve a strong platform for future growth. World Airways concentrates on ACMI contracts which shift yield, load factor and cost risks to the customer. The customer bears the risk of filling the aircraft with passengers or cargo and assumes a large portion of the operating expenses, including fuel. World Airways has elected to emphasize its ACMI business because the Company perceives a number of opportunities created by a growing global economy, particularly growth in second and third world economies where the demand for airlift exceeds capacity. World Airways attempts to maximize profitability by combining its multi-year ACMI contracts with short term, higher-yielding ACMI agreements which meet the peak seasonal requirements of its customers. The Company responds opportunistically to rapidly changing market conditions by maintaining a flexible fleet of aircraft that can be deployed in a variety of configurations. World Airways focuses its marketing efforts on countries where rapid economic development drives demand for the Company's services. The Company believes that its modern fleet of long-range medium-density wide-body MD-11 and DC10-30 aircraft are well suited to these less dense international routes and provide superior economics as compared to other popular aircraft such as the Boeing 747 which has greater capacity. World Airways substantially increases its potential customer base by being able to serve both passenger and cargo customers. The Company flies passenger, cargo and passenger/cargo convertible aircraft that the Company believes permit the Company to target emerging opportunities. World Airways has been providing safe, reliable services for over 50 years. The Company has flown for the USAF since 1956, for Malaysian Airlines System Berhad ("Malaysian Airlines") since 1981 and for Garuda Indonesia ("Garuda") since 1973. Customers Over the years, the Company has had relationships with a number of major international airlines and with the USAF (see "MD&A - Customers"). The Company's growth strategy is based, first and foremost, upon providing the highest level of service to these customers, thereby maintaining and expanding the amount of business being done through long-term contracts. The information regarding major customers and foreign revenue is contained in Note 15 "Major Customers" of the Company's "Notes to Financial Statements" in Item 8. Information concerning the classification of products within the air transportation industry comprising 10% or more of the Company's operating revenues from continuing operations is presented in the following table (in millions): Year Ended December 31, ----------------------------------------- 1997 1996 1995 ---- ---- ---- Flight Operations - Passenger $ 267.3 $ 257.6 $ 168.0 Flight Operations - Cargo 39.5 39.3 64.6 COMPETITION AND SEASONALITY See Management's Discussion and Analysis of Financial Condition and Results of Operations and Note 18 "Unaudited Quarterly Results" of the Company's "Notes to Financial Statement" in item 8. AVIATION FUEL The Company's source of aviation fuel is primarily from major oil companies, under annual delivery contracts, at often frequented commercial locations, and from United States military organizations at military bases. The Company's current fuel purchasing policy consists of the purchase of fuel within seven days in advance of all flights based on current prices set by individual suppliers. More than one supplier is under contract at several locations. The Company purchases no fuel under long-term contracts nor does the Company enter into futures or fuel swap contracts. The air transportation industry in general is affected by the price and availability of aviation fuel. Both the cost and availability of aviation fuel are subject to many economic and political factors and events occurring throughout the world and remain subject to the various unpredictable economic and market factors that affect the supply of all petroleum products. Fluctuations in the price of fuel have not had a significant impact on the Company's operations in recent years because, in general, the Company's ACMI contracts with its customers limit the Company's exposure to increases in fuel prices. However, a substantial increase in the price or the unavailability of aviation fuel could have a material adverse effect on the air transportation industry in general and the financial condition and results of operations of the Company. REGULATORY MATTERS Since it was founded in 1948, the Company has been authorized to engage in commercial air transportation by the DOT or its predecessor agencies. The Company is currently authorized to engage in the scheduled and charter air transportation of combination (persons, property and mail) and all-cargo services between all points in the U.S., its territories and possessions. It also holds worldwide charter authority for both combination and all-cargo operations. In addition, the Company is authorized to conduct scheduled combination services to the foreign points listed in its DOT certificate. The Company also holds certificates of authority to engage in scheduled all-cargo services to a limited number of foreign destinations. The Company is subject to the jurisdiction of the FAA with respect to aircraft maintenance and operations, including flight operations, equipment, aircraft noise, ground facilities, dispatch, communications, training weather observation, flight time, crew qualifications, aircraft registration and other matters affecting air safety. The FAA requires each air carrier to obtain an operating certificate and operations specifications authorizing the carrier to operate to particular airports on approved international routes using specified equipment. These certificates and specifications are subject to amendment, suspension, revocation or termination by the FAA. In addition, all of the Company's aircraft must have and maintain certificates of airworthiness issued or approved by the FAA. The Company currently holds an FAA air carrier operating certificate and operations specifications under Part 121 of the Federal Aviation Regulations. The FAA has the authority to suspend temporarily or revoke permanently the authority of the Company or its licensed personnel for failure to comply with regulations promulgated by the FAA and to assess civil penalties for such failures. Under the Airport Noise and Capacity Act of 1990 and related FAA regulations, the Company's aircraft fleet must comply with certain Stage 3 noise restrictions by certain specified deadlines. All of the Company's aircraft currently meet the Stage 3 noise reduction requirement, which is currently the most stringent FAA noise requirement. FAA regulations require compliance with the Traffic Alert and Collision Avoidance System ("TCAS"), approved airborne windshear warning system and aging aircraft regulations. Additional laws and regulations have been proposed from time to time which could significantly increase the cost of airline operations by imposing additional requirements or restrictions on operations. Laws and regulations have been considered from time to time that would prohibit or restrict the ownership and transfer of airline routes or slots. There is no assurance that laws and regulations currently enacted or enacted in the future will not adversely affect the Company's ability to maintain its current level of operating results. Several aspects of airline operations are subject to regulation or oversight by Federal agencies other than the DOT or FAA. For instance, labor relations in the air transportation industry are generally regulated under the Railway Labor Act, which vests in the National Mediation Board certain regulatory powers with respect to disputes between airlines and labor unions arising under collective bargaining agreements. In addition, the Company is subject to the jurisdiction of other governmental entities, including (i) the FCC regarding its use of radio facilities pursuant to the Federal Communications Act of 1934, as amended, (ii) the Commerce Department, the Customs Service, the Immigration and Naturalization Service, and the Animal and Plant Health Inspection Service of the Department of Agriculture regarding the Company's international operations, (iii) the Environmental Protection Agency (the "EPA") regarding compliance with standards for aircraft exhaust emissions and (iv) the Department of Justice regarding certain merger and acquisition transactions. The EPA regulates operations, including air carrier operations, which affect the quality of air in the U.S. The Company has made all necessary modifications to its operating fleet to meet fuel-venting requirements and smoke emissions standards issued by the EPA. The Company's international operations are generally governed by the network of bilateral civil air transport agreements providing for the exchange of traffic rights between governments which then select and designate air carriers authorized to exercise such rights. In the absence of a bilateral agreement, such international air services are governed by principles of comity and reciprocity. Bilateral provisions pertaining to the wet lease services in which the Company is primarily engaged vary considerably depending on the particular country. Most bilateral agreements into which the U.S. has entered permit either country to terminate the agreement with one year's notification to the other. In the event a bilateral agreement is terminated, international air service between the affected countries is governed by the principles of comity and reciprocity. Certain airports served by the Company are subject to slot allocations administered by the governments of the countries in which such airports are located or by coordinating committees comprising airline representatives. A "slot" is an authorization to take off or land at the designated airport within a specified time window. In the past, the Company has generally been successful in obtaining the slots it needs in order to conduct planned operations. There can be no assurance, however, that it will be able to do so in the future because, among other factors, government policies regulating the distribution of slots, both in the U.S., and in foreign countries, are subject to change. Pursuant to federal law, no more than 25% of the voting interest in the Company may be owned or controlled by foreign citizens. In addition, under existing precedent and policy, actual control must reside in U.S. citizens. As a matter of regulatory policy, the DOT has stated that it would not permit aggregate equity ownership of a domestic air carrier by foreign citizens in an amount in excess of 49%. The Company fully complies as of the date hereof with these U.S. citizen ownership requirements. Due to its participation in CRAF, the Company is subject to inspections approximately every two years by the military as a condition of retaining its eligibility to perform military charter flights. The last such inspection was undertaken in 1996 and the next is anticipated to occur in 1998. As a result of such inspections, the Company has been required to implement measures, such as the establishment of a crew resource management course, beyond those required by the DOT, FAA and other government agencies. The USAF may terminate its contract with the Company if the Company fails to pass such inspection or otherwise fails to maintain satisfactory performance levels, if the Company loses its airworthiness certificate or if the aircraft pledged to the contracts lose their U.S. registry or are leased to unapproved carriers. The Company believes it is in compliance in all material respects with all requirements necessary to maintain in good standing its operating authority granted by the DOT and its air carrier operating certificate issued by the FAA. A modification, suspension or revocation of any of the Company's DOT or FAA authorizations or certificates could have a material adverse effect upon the Company. The Company also is subject to state and local laws and regulations at locations where it operates and the regulations of various local authorities which operate the airports it serves. Certain airport operations have adopted local regulations which, among other things, impose curfews and noise abatement regulations. While the Company believes it is currently in compliance in all material respects with all appropriate standards and has all required licenses and authorities, any material non-compliance by the Company therewith or the revocation or suspension of licenses or authorities could have a material adverse effect on the Company. EMPLOYEES As of March 2, 1998, the Company had 801 full time employees classified as follows: Number of Classification Full-Time Employees - -------------- ------------------- Management..................................................... 8 Aministrative and Operations.................................. 298 Cockpit Crew (including pilots)................................ 298 Flight Attendants (active)..................................... 197 --- Total Employees............................................ 801 === The Company's cockpit crew members, who are represented by the International Brotherhood of Teamsters (the "Teamsters"), are subject to a four-year collective bargaining agreement that will become amendable in July 1998. Approximately 37% of the Company's employees are covered under the collective bargaining agreement. The Company expects to begin negotiations in April 1998 and cannot predict the outcome of the negotiations or their possible impact on the Company's financial condition and results of operations. The Company's flight attendants, who are also represented by the Teamsters, are subject to a four-year collective bargaining agreement that will expire in August 2000. The Company's flight attendants argued the "scope clause" of the collective bargaining agreement had been violated by the Company and challenged the use of foreign flight attendant crews on the Company's flights for Malaysian Airlines and Garuda Indonesia which has historically been the Company's operating procedure. The Company is contractually obligated to permit its Southeast Asian customers to deploy their own flight attendants. While the arbitrator in this matter denied in 1997 the Union's request for back pay to affected flight attendants for flying relating to the 1994 Hadj, the arbitrator concluded that the Company's contract with its flight attendants requires the Company to first actively seek profitable business opportunities that require using the Company's flight attendants, before the Company may accept wet lease business opportunities that use the flight attendants of the Company's customers. Subsequently, in 1997, the flight attendants challenged and filed "scope clause" grievances with respect to four separate wet-lease contracts. The Company and the Teamsters are presently in discussions regarding these grievances. At this time, however, the Company can give no assurance that these discussions will be successful and the grievances will not be submitted to formal arbitration. The Company can provide no assurance as to how the resolution of this matter will affect the Company's financial condition and results of operations. The Company's aircraft dispatchers are represented by the Transport Workers Union (the "TWU"). This contract became amendable on June 30, 1993. In May 1995, the parties reached agreement with respect to a new four-year contract. This contract was ratified in February 1996. Fewer than 12 Company employees are covered by this collective bargaining agreement. The Company is unable to predict whether any of its employees not currently represented by a labor union, such as the Company's maintenance personnel, will elect to be represented by a labor union or collective bargaining unit. The election by such employees of representation in such an organization could result in employee compensation and working condition demands that could have a material adverse effect on the financial results of the Company. ITEM 2. PROPERTIES FLIGHT EQUIPMENT At December 31, 1997, the Company's aggregate operating fleet consisted of 12 leased aircraft as follows (see Note 11 "Long-Term Obligations" of the Company's "Notes to Financial Statements" in Item 8): Capacity Aircraft (a) Passenger (seats)(b) Cargo (Tons) Total (c) - ------------ -------------------- ------------ --------- McDonnell Douglas MD-11 409 -- 3 McDonnell Douglas MD-11F -- 95 1 McDonnell Douglas MD-11CF 410 90 2 McDonnell Douglas MD-11ER 409 -- 2 McDonnell Douglas DC10-30 350 -- 3 McDonnell Douglas DC10-30CF 380 65 1 -- Total 12 == Notes a) "F" aircraft are freighters, "CF" are convertible freighters and may operate in either passenger or freight configurations. "ER" aircraft maintain extended-range capabilities. Aircraft with no letter designation are passenger-only aircraft. b) Based on standard operating configurations. Other configurations are occasionally used. (c) Lease terms expire between 1998 and 2020 (assuming exercise of all lease extensions). GROUND FACILITIES The Company leases office space located near Washington Dulles International Airport which houses its corporate headquarters and substantially all of the administrative employees of the Company. In addition, the Company leases additional office and warehouse space in Wilmington, Delaware; Philadelphia, Pennsylvania; New York, New York; Los Angeles, California; Kuala Lumpur, Malaysia; Yakota, Japan; and Frankfurt, Germany. Additional small offices and maintenance material storage space are leased at often frequented airports to provide administrative and maintenance support for commercial and military contracts. ITEM 3. LEGAL PROCEEDINGS For a description of the Company's current legal proceedings, see Note 17, "Commitments and Contingencies" of the Company's "Notes to Financial Statements" in Item 8. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matters were submitted to a vote of security holders during the fourth quarter of 1997. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK & RELATED SECURITY HOLDER MATTERS The Company's common stock trades on the Nasdaq National Market tier of The Nasdaq Stock MarketSM under the symbol: WLDA. The high and low sales prices of the Company's common stock, as reported on the Nasdaq National Market, for each quarter in the last two fiscal years are as follows: Common Stock ---------------------- High Low ---- --- 1997 ---- Fourth Quarter 9 1/2 6 3/8 Third Quarter 9 1/2 5 1/4 Second Quarter 9 3/4 6 1/4 First Quarter 10 1/2 7 1996 ---- Fourth Quarter 11 1/8 6 5/8 Third Quarter 7 3/4 4 3/4 Second Quarter 11 1/4 6 3/4 First Quarter 11 1/8 6 The Company has not declared or paid any cash dividends or distributions on its common stock since the payment of a distribution to WorldCorp in 1992. The Company currently intends to retain its future earnings, if any, to fund the development and growth of its business and, therefore, does not anticipate paying any cash dividends in the foreseeable future. Any future decision concerning the payment of dividends on its common stock will depend upon the results of operations, financial condition, capital expenditure plans of the Company, provisions of certain financing instruments as well as such other factors as the Board of Directors, in its sole discretion, may consider relevant. Under the terms of the shareholders agreement among the Company, WorldCorp, and MHS, the Company has agreed to declare and distribute all dividends properly payable, subject to the requirements of law and general overall financial prudence. The Credit Agreement with BNY Financial Corporation (as amended subsequent to year end, the "Credit Agreement") contains restrictions on the Company's ability to pay dividends or make any distributions of common stock in excess of 5% of the total aggregate outstanding amount of stock, except that the Company may make quarterly dividends so long as in any six month period, such dividends do not exceed 50% of the Company's aggregate net income for the previous six months. WorldCorp is subject to the provisions of an indenture, expiring in 2004, which causes the Company not to pay dividends upon the occurrence of any events of default by WorldCorp under the indenture. However, the indenture is not applicable to World Airways if WorldCorp's ownership percentage is below 51% of the issued and outstanding shares of common stock. As a result of the Company's purchase of its common stock from MHS effective January 23, 1998, WorldCorp owned approximately 51.2% of the outstanding common stock. The approximate number of shareholders of record at March 13, 1998 is 71, and does not include those shareholders who hold shares in street name accounts. ITEM 6. SELECTED FINANCIAL DATA WORLD AIRWAYS, INC. SELECTED FINANCIAL DATA (IN THOUSANDS EXCEPT PER SHARE DATA)
Year Ended December 31, -------------------------------------------------------------------- 1997 1996 1995 1994 1993 ------------ ------------ ------------ ------------ ---------- RESULTS OF OPERATIONS: Operating revenues $ 309,412 $ 309,587 $ 242,386 $ 180,715 $ 178,736 Operating expenses 292,555(1) 287,942 226,488 185,916(2) 186,065(3) Operating income (loss) 16,857 21,645 15,898 (5,201) (7,329) Earnings (loss) from continuing operations before income taxes 12,230 19,032 14,748 (9,027) (8,985) Earnings (loss) from continuing operations 11,967 18,353 14,146 (9,001) (9,048) Discontinued operations (515) (32,375) (5,250) -- -- Net earnings (loss) 11,452 (14,022) 8,896 (9,001) (9,048) Cash dividends -- -- -- -- -- Basic earnings (loss) per common share(5): Continuing operations $ 1.16 $ 1.55 $ 1.35 $ (0.92) $ (1.02) Discontinued operations (0.05) (2.74) (0.50) -- -- Net earnings (loss) 1.11 (1.19) 0.85 (0.92) (1.02) Weighted average common stock outstanding(4) 10,302 11,806 10,477 9,812 8,874 Diluted earnings (loss) per common share(5): Continuing operations $ 1.09 $ 1.55 $ 1.34 $ * $ * Discontinued operations (0.05) (2.74) (0.50) * * Net earnings (loss) 1.04 (1.19) 0.84 * * Weighted average common stock and common equivalent shares outstanding(4) 12,279 11,806 10,572 9,939 9,000 FINANCIAL POSITION: Cash and restricted short-term investments $ 25,887 $ 8,075 $ 26,180 $ 4,722 $ 11,746 Total assets 149,148 127,524 130,695 78,051 88,512 Notes payable and long-term obligations including current maturities 88,966 50,538 37,112 33,826 42,256 Common stockholders' equity (deficit) (4,771) 8,362 30,340 (1,367) (7,756) Dividends -- -- -- -- --
(1) Operating expenses in 1997 include a $0.9 million reversal of aircraft costs incurred in 1996 relating to reimbursements for disputed spare engine lease charges and a $1.0 million reversal of accrued maintenance expense in excess of the cost of an overhaul of a DC-10 aircraft. (2) Operating expenses in 1994 include a $4.2 million reversal of excess accrued maintenance reserves associated with the expiration of three DC10-30 aircraft leases during 1994. (3) Operating expenses in 1993 include $2.3 million of termination fees related to the early return of three DC10-30 aircraft. (4) All share and per share data for the periods presented have been restated to reflect the 1-for-88, 737 reverse stock split which was effectuated in February 1994. (5) Earnings per share for the periods presented have been calculated in accordance with Financial Accounting Standards Board's Statement of Financial Accounting Standard No. 128, Earnings Per Share. * Diluted earnings per share are anti-dilutive. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW BACKGROUND Management's Discussion and Analysis of Financial Condition and Results of Operations presented below relates to the operations of World Airways, Inc. ("World Airways" or "the Company") as reflected in its financial statements. The Company desires to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995 (the "Act"). Therefore, this report contains forward looking statements that are subject to risks and uncertainties, including, but not limited to, the reliance on key strategic alliances, fluctuations in operating results and other risks detailed from time to time in the Company's filings with the Securities and Exchange Commission. These risks could cause the Company's actual results for 1998 and beyond to differ materially from those expressed in any forward looking statements made by, or on behalf of, the Company. World Airways was organized in March 1948 and became a wholly owned subsidiary of WorldCorp, Inc. ("WorldCorp") in a holding company reorganization in 1987. In February 1994, pursuant to an October 1993 agreement, WorldCorp sold 24.9% of its ownership to MHS Berhad ("MHS"), a Malaysian aviation company. Effective December 31, 1994, WorldCorp increased its ownership in the Company to 80.1% through the purchase of 5% of World Airways common stock held by MHS. In October 1995, the Company completed an initial public offering in which 2,000,000 shares were issued and sold by the Company and 900,000 shares were sold by WorldCorp. On September 18, 1997, the Company purchased 3,227,000 shares of its common stock from WorldCorp. At December 31, 1997, WorldCorp and MHS owned 46.3% and 24.9%, respectively, of the outstanding common stock of World Airways. The balance was publicly traded. Effective January 23, 1998, the Company purchased 773,000 shares of its common stock from MHS in accordance with the shareholders agreement (see Note 1 of "Notes to Financial Statements" in Item 8). Therefore, effective January 23, 1998, WorldCorp and MHS own 51.2% and 16.8%, respectively, of the outstanding common stock of World Airways, with the balance publicly traded. On August 26, 1997, the Company completed a private offering, issuing $50.0 million of 8% convertible senior subordinated debentures (the "Debentures") due in 2004 (the "Offering"). The Debentures were subsequently registered with the Securities and Exchange Commission. The Debentures are unsecured obligations, convertible into shares of the Company's common stock at $8.90 per share, subject to adjustment in certain events, and subordinated to all present and future senior indebtedness of the Company. In the event of a change in control of the Company, as defined, the holders of the Debentures could require the Company to repurchase the outstanding Debentures. The Debentures are not redeemable by the Company prior to August 26, 2000. The Company's intended use of net proceeds of the Offering was to repurchase approximately 4.0 million shares of its common stock, repay certain indebtedness, increase working capital and for general corporate purposes. After completion of the Offering, the Company repaid approximately $3.8 million as full settlement of an outstanding spare parts loan. In addition, failure by the Company to repurchase at least 4.0 million shares of common stock within 150 days after the sale of the Debentures would constitute a repurchase event whereby each holder of the Debentures would have the right, at the holder's option, to require the Company to repurchase such holder's Debentures at 100% of their principal amount, plus accrued interest. As discussed below, the Company fulfilled its 4.0 million share repurchase requirement in accordance with the terms stipulated in the Offering. In 1996, World Airways instituted a program to purchase up to one million shares of its publicly-traded Common Stock pursuant to open market transactions. As of March 6, 1998, World Airways had purchased 770,000 shares of Common Stock at an aggregate cost of approximately $7.9 million pursuant to such program. The Company does not intend to purchase any additional shares at this time. In connection with the above-mentioned Offering, the Company and WorldCorp, Inc. ("WorldCorp") entered into an agreement (the "Agreement") for the purchase by World Airways of up to 4.0 million shares of common stock owned by WorldCorp at a purchase price of $7.65 per share. On September 18, 1997, the Company purchased 3,227,000 shares of its common stock from WorldCorp for approximately $24.7 million. MHS has certain rights under a shareholders agreement, dated as of February 3, 1994, as amended, among WorldCorp, MHS and the Company. This agreement includes a provision that provides that if WorldCorp were to dispose of its holdings in the Company with the result that WorldCorp's ownership interest in the Company falls below 51% of the outstanding shares of common stock, then MHS may either sell its shares to a third party or require WorldCorp to sell a pro rata number of shares held by MHS to the party purchasing WorldCorp's Company shares. Therefore, as a result of the purchase of 3,227,000 shares of common stock by World Airways from WorldCorp, MHS had the right to sell, and accordingly sold, 773,000 shares of common stock to World Airways for approximately $5.9 million, effective January 23, 1998. GENERAL World Airways is a global provider of long-range passenger and cargo air transportation outsourcing services to major international airlines under fixed rate contracts. The Company's passenger and freight operations employ 12 wide-body aircraft which are currently operated under contracts, a substantial portion of which are with Pacific Rim airlines. These contracts generally require the Company to supply aircraft, crew, maintenance and insurance ("ACMI" or "wet lease"), while the Company's customers are responsible for a large portion of the other operating expenses, including fuel. World Airways' airline customers have determined that outsourcing a portion of their wide-body passenger and cargo requirements can be less expensive, and offers greater operational and financial flexibility, than purchasing new aircraft and additional spare parts required for such aircraft. World Airways also leads a contractor teaming arrangement that is one of the largest suppliers of commercial airlift services to the United States Air Force's Air Mobility Command ("U.S. Air Force" or "USAF"). In July 1996, World Airways restructured its business to focus on ACMI contract services. As such, the Company ceased all scheduled passenger and scheduled charter services as of October 27, 1996, taking a one-time charge of $21.0 million as of June 30, 1996 (see "Discontinuation of Scheduled Service Operations"). The Company generally charges customers on a block hour basis rather than a per seat or per pound basis. "Block hours" are defined as the elapsed time computed from the moment the aircraft first moves under its own power at the point of origin to the time it comes to rest at its final destination. The Company provides most services under two types of contracts: wet lease contracts and full service contracts. Under wet lease contracts, the Company provides the aircraft, cockpit crew, maintenance and insurance and the customer provides all other operating services and bears all other operating expenses, including fuel and fuel servicing, marketing costs associated with obtaining passengers and/or cargo, airport passenger and cargo handling fees, landing fees, cabin crews, catering, ground handling and aircraft push-back and de-icing services. Under full service contracts, the Company provides fuel, catering, ground handling, cabin crew and all related support services as well. Accordingly, the Company generally charges a lower rate per block hour for wet lease contracts than full service contracts, although it does not necessarily earn a lower profit. Because of shifts in the mix between full service contracts and wet lease contracts, fluctuations in revenues are not necessarily indicative of volume trends or profitability. It is important, therefore, to measure the Company's business volume by block hours flown and to measure profitability by operating income per block hour. The Company's operating philosophy is to build on its existing ACMI relationships to achieve a strong platform for future growth. World Airways concentrates on ACMI contracts which shift yield, load factor and certain cost risks to the customer. The customer bears the risk of filling the aircraft with passengers or cargo and assumes a portion of the operating expenses, including fuel. World Airways has elected to emphasize its ACMI business because the Company perceives a number of opportunities created by a growing global economy, particularly growth in second and third world economies where the demand for airlift exceeds capacity. World Airways attempts to maximize profitability by combining its multi-year ACMI contracts with short term, higher-yielding ACMI agreements which meet the peak seasonal requirements of its customers. The Company responds opportunistically to rapidly changing market conditions by maintaining a flexible fleet of aircraft that can be deployed in a variety of configurations. As noted above, the Company has focused its business on ACMI contract services. As is common in the air transportation industry, the Company has relatively high fixed aircraft costs. World Airways operates a fleet of eight MD-11 and four DC10-30 wide-body aircraft, and while the Company believes that the lease rates on its MD-11 aircraft are favorable relative to lease rates of other MD-11 operators, the Company's MD-11 aircraft have higher lease costs (although lower operating costs) than its DC10-30 aircraft. Therefore, achieving high average daily utilization of its aircraft (particularly its MD-11 aircraft) at attractive yields are important factors to the Company's financial results. In addition to fixed aircraft costs, a portion of the Company's labor costs are fixed due to monthly minimum guarantees to cockpit crewmembers and flight attendants. Factors that affect the Company's ability to achieve high utilization in its ACMI business include the compatibility of the Company's aircraft with customer needs and the Company's ability to react on short notice to customer requirements (which can be unpredictable due to changes in traffic rights, aircraft delivery schedules and aircraft maintenance requirements). Other factors that affect the ACMI business include particular domestic and foreign regulatory requirements, as well as a trend toward aviation deregulation which is increasing the number of alliances and code share arrangements. SIGNIFICANT CUSTOMER RELATIONSHIPS In 1997, the Company's business relied heavily on its contracts with Malaysian Airline System Berhad ("Malaysian Airlines"), Philippine Airlines, Inc. ("Philippine Airlines"), P.T. Garuda Indonesia ("Garuda") and the U.S. Air Force. For the year ended December 31, 1997, these customers provided approximately 21%, 31%, 10% and 25%, respectively, of the Company's revenues and 23%, 34%, 11% and 16%, respectively, of total block hours. In 1996, these customers provided approximately 34%, 15%, 13%, and 25%, respectively, of the Company's revenues and 42%, 17%, 14%, and 17%, respectively, of total block hours flown from continuing operations. Malaysian Airlines. World Airways has provided wet lease services to Malaysian Airlines since 1981, providing wet lease services for Malaysian Airlines' scheduled passenger and cargo operations as well as transporting passengers for the annual Hadj pilgrimage. MHS, which owned 16.8% of the Company as of January 23, 1998, also owns 28% of Malaysian Airlines. The Company also entered into a 32-month agreement for year-round operations (including the Hadj) with Malaysian Airlines whereby the Company is providing two passenger aircraft with cockpit crews, maintenance and insurance to Malaysian Airlines' newly-formed charter division through May 1999. However, the Company agreed to a five month reduction in the utilization of one aircraft during 1997, although the aircraft was redeployed in other activity. Malaysian Airlines has not informed the Company of any reductions for 1998. The Company provided three aircraft for 1997 Hadj operations. MAS received notice from the Malaysian Hadj Board that MAS would not participate in the 1998 Hadj pilgrimage. As a result, MAS entered into an agreement on behalf of the Company for the Company to provide two DC-10 aircraft to fly in the 1998 Indian Hadj. The Company has a long-term contract to operate three MD-11 cargo aircraft for Malaysian Airlines. However, beginning in July 1996, and as mutually agreed by the parties, World Airways redeployed two cargo aircraft, which had been operating under these contracts, into another contract which ended in February 1998. The Company and Malaysian Airlines are currently discussing the redeployment of these aircraft back into Malaysian Airlines' operations during 1998 in order to meet the contracts' original obligations. The Company can provide no assurances, however, that the Company will, in fact, be able to do so. Malaysian Airlines is subject to the financial difficulties associated with the adverse economic conditions in Malaysia and the Asia Pacific Region, but it has remained current with its payments for committed block hour minimums provided in the contracts. Failure by Malaysian Airlines to meet its aircraft lease obligations, if not offset by other business, would have a material adverse effect on the financial condition, cash flows and results of operations of the Company. Garuda. The Company has flown for Garuda periodically since 1973 and yearly since 1988. Since 1988, the Company has been one of the largest providers of passenger services to Indonesia for the Hadj pilgrimage. The Indonesian Hadj pilgrimage is the world's largest due to the size of Indonesia's Islamic population. In 1997, approximately 40,000 of the 200,000 Indonesians who traveled to Jeddah for the Hadj pilgrimage flew on the Company's aircraft. The Company has reached an agreement with Garuda to operate six aircraft during the 1998 pilgrimage. Philippine Airlines. The Company had agreements with Philippine Airlines to operate four passenger aircraft until November 1997. As a result of the economic distress experienced in the Philippines, the Company negotiated to terminate the agreements on two of the aircraft effective in August 1997, and received monthly termination payments totaling $3.0 million through the original end of the agreements in November 1997. In addition, the contracts on the remaining two aircraft were extended until February 1998 and the per block hour rates for those two aircraft were reduced slightly. The two aircraft which were removed from Philippine Airlines service were redeployed by the Company under agreements with other customers. The contract with Philippine Airlines expired in February 1998. U.S. Air Force. The Company has provided international air transportation to the U.S. Air Force since 1956. In exchange for requiring pledges of aircraft to the Civil Reserve Air Fleet ("CRAF") for use in times of national emergency, the U.S. Air Force grants awards to CRAF participants for peacetime transportation of personnel and cargo. Although the Company's agreements with the USAF provide for full service contracts with certain minimum performance requirements, the Company has risks similar to an ACMI agreement because the USAF agreements are cost-plus contracts at attractive rates. The overall downsizing of the U.S. military places a premium on the mobility of the U.S. armed forces. This is reflected in the stable size over the past several years of the USAF's procurement of commercial airlift services. It is uncertain, however, what impact, if any, the instability within the Middle East will have upon the Company's future flight operations. The USAF awards points to air carriers acting alone or through teaming arrangements in proportion to the number and type of aircraft such carriers make available to CRAF. The Company utilizes such teaming arrangements to maximize the value of potential awards. The Company leads a contractor teaming arrangement that enjoys a large market share of the USAF's overall commercial airlift requirement. During a period in which the U.S. military downsized substantially, the Company's portion of the fixed USAF award increased from $15.6 million for the government's 1992-93 fiscal year, to $73.4 million for the government's 1997-98 fiscal year. The current annual contract commenced on October 1, 1997 and expires on September 30, 1998. World Airways, however, cannot determine how future cuts in military spending may affect future operations with the U.S. Air Force. VASP. The Company leased a cargo plane to Viacao Aereo Sao Paulo ("VASP"), a Brazilian airline, under an ACMI contract which began in June 1997 and terminated prior to December 31, 1997. World Airways also during 1997 entered into a Memorandum of Agreement with VASP for the lease of two MD-11 passenger aircraft for a six-month term with a six-month renewal option. This contract was not finalized in 1997 and the Company currently is not contracting with VASP for any aircraft. The aircraft intended for VASP have been redeployed to other customers of the Company. Although the Company's customers bear the financial risk of filling the Company's aircraft with passengers or cargo, the Company can be affected adversely if its customers are unable to operate the Company's aircraft profitably, or if one or more of the Company's customers experience a material adverse change in their market demand, financial condition or results of operations. Under these circumstances, the Company can be adversely affected by receiving delayed or partial payments or by receiving customer demands for rate and utilization reductions, flight cancellations, and/or early termination of their agreements. See Note 2 of the Company's "Notes to Financial Statement" in Item 8. As a result of these and other contracts, the Company had an overall contract backlog at December 31, 1997 of $305.8 million, compared to $468.0 million at December 31, 1996. Approximately $199.4 million of the backlog relates to operations during 1998. The Company's backlog for each contract is determined by multiplying the minimum number of block hours guaranteed under the applicable contract by the specified hourly rate under such contract. Approximately 57% of the backlog relates to its contracts with Malaysian Airlines, included in which are the revenues associated with the three cargo aircraft for Malaysian Airlines (see "Significant Customer Relationships - Malaysian Airlines" for further discussion of these contracts). Consistent with prior years, the Company has substantial uncontracted capacity in the third and fourth quarters of 1998 and beyond. Although there can be no assurance that it will be able to secure additional business to reduce this excess capacity, the Company is actively seeking customers for 1998 and beyond, and has historically been successful in obtaining new customers. The Company's financial results and financial condition would be affected adversely if the Company is unable to secure additional business to reduce this excess capacity. The information regarding major customers and foreign revenue is contained in Note 15 "Major Customers" of the Company's "Notes to Financial Statements" in Item 8. COMPETITION The market for outsourcing air passenger and cargo ACMI services is highly competitive. Certain of the passenger and cargo air carriers against which the Company competes possess substantially greater financial resources and more extensive facilities and equipment than those which are now, or will in the foreseeable future become, available to the Company. The Company believes that the most important bases for competition in the ACMI outsourcing business are the age of the aircraft fleet, the passenger, payload and cubic capacities of the aircraft, and the price, flexibility, quality and reliability of the air transportation service provided. Competitors in the ACMI outsourcing market include MartinAir Holland, Tower Air and American TransAir and all-cargo carriers, such as Atlas Air, Gemini Air Cargo, Polar Air Cargo and Kitty Hawk, and scheduled and non-scheduled passenger carriers which have substantial belly capacity. The ability of the Company to continue to grow depends upon its success in convincing major international airlines that outsourcing some portion of their air passenger and cargo business remains more cost-effective than undertaking passenger or cargo operations with their own incremental capacity and resources. The allocation of military air transportation contracts by the USAF is based upon the number and type of aircraft a carrier, alone or through a teaming arrangement, makes available for use in times of national emergencies. The formation of competing teaming arrangements comprised of larger partners than those sponsored by the Company, an increase by other air carriers in their commitment of aircraft to the emergency program, or the withdrawal of the Company's current partners, could adversely affect the size of the USAF contracts, if any, which are awarded to the Company in future years. CYCLICAL NATURE OF AIR CARRIER BUSINESS The Company operates in a challenging business environment. The air transportation industry is highly sensitive to general economic conditions. Since a substantial portion of passenger airline travel (both business and personal) is discretionary, the industry tends to experience severe adverse financial results during general economic downturns and can be adversely affected by unexpected global political developments. The financial results of air cargo carriers are also adversely affected by general economic downturns due to the reduced demand for air cargo transportation. In 1993 and 1994, the combination of a generally weak global economy and the depressed state of the air transportation industry adversely affected the Company's operating performance. SEASONALITY Historically, the Company's business has been significantly affected by seasonal factors. During the first quarter, the Company typically experiences lower levels of utilization and yields due to lower demand for passenger and cargo services relative to other times of the year. The Company experiences higher levels of utilization and yields in the second quarter, principally due to peak demand for commercial passenger services associated with the annual Hadj pilgrimage. In 1998, the Company's flight operations associated with the Hadj pilgrimage will occur from February 28 to May 12. Because the Islamic calendar is a lunar-based calendar, the Hadj pilgrimage occurs approximately 10 to 12 days earlier each year relative to the Western (Gregorian) calendar. As a result, revenues resulting from future Hadj pilgrimage contracts will continue to shift from the second quarter to the first quarter over the next several years. GEOGRAPHIC CONCENTRATION The Company derives a significant percentage of its revenues and block hours from its operations in the Pacific Rim region. Any further economic decline or any military or political disturbance in this area may interfere with the Company's ability to provide service in this area. In 1997, the affects of the adverse economic conditions in Malaysia and Indonesia and other countries in the Asia Pacific Region included a national liquidity crisis, significant depreciation in the value of the ringgit and rupiah, higher domestic interest rates, reduced opportunity for refinancing or refunding of maturing debts, and a general reduction in spending throughout the region. These conditions and similar conditions in other countries in the Asia Pacific Region could have a material adverse effect on the operations of Malaysian Airlines and Garuda Indonesia, and therefore on the operations of the Company. However, management also believes these conditions could provide new opportunities to wet lease aircraft to airlines customers, particularly those who have deferred or canceled new aircraft orders but are still in need of providing additional airlift. UTILIZATION OF AIRCRAFT Due to the large capital costs of leasing and maintaining World Airways' aircraft, each of World Airways' aircraft must have high utilization at attractive rates in order for World Airways to operate profitably. Although World Airways' strategy is to enter into long-term contracts with its customers, the terms of World Airways' existing customer contracts are substantially shorter than the terms of World Airways' lease obligations with respect to the aircraft. As mentioned above, a significant portion of World Airways' contract backlog at December 31, 1997, relates to its multi-year contracts with Malaysian Airlines which is subject to the financial difficulties associated with the adverse economic conditions in Malaysia and the Asia Pacific Region. In addition, the Company has substantial uncontracted capacity in the third and fourth quarters of 1998 and beyond. There can be no assurance that World Airways will be able to enter into additional contracts with new or existing customers or that it will be able to obtain enough additional business to fully utilize each aircraft. World Airways' financial position and results of operations could be materially adversely affected even by relatively brief periods of low aircraft utilization and yields. In order to maximize aircraft utilization, World Airways does not intend to acquire new aircraft unless such aircraft would be necessary to service existing needs or World Airways has obtained additional ACMI contracts for the aircraft to service. World Airways is seeking to obtain additional ACMI contracts with new and existing customers, to which such new aircraft would be dedicated when placed in service, but World Airways can provide no assurance that it will obtain new ACMI contracts or that existing ACMI contracts will be renewed or extended. AIRCRAFT FLEET World Airways' strategy is to attempt to ensure that each of the aircraft in its fleet is to a large extent contractually dedicated by World Airways to the service of one or more customers, with limited aircraft available to provide back-up capability. Therefore, in the event the use of one or more of World Airways' aircraft was lost, World Airways might have difficulty fulfilling its obligations under one or more of these contracts, if it were unable to obtain substitute aircraft. On October 24, 1997, one of the Company's MD-11 aircraft was damaged upon landing. The aircraft was out of service for approximately two and a half months while certain repairs were made. The Company expects insurance to cover repair and certain related costs, but the Company's loss of revenues that would have been generated by the aircraft's use had an adverse effect on the Company's financial condition and results of operations for the fourth quarter of 1997. MAINTENANCE Engine maintenance accounts for most of the Company's annual maintenance expenses. Typically, the hourly cost of engine maintenance increases as the aircraft ages. The Company outsources major airframe maintenance and power plant work to several suppliers. The Company has a 10-year contract expiring in August 2003 with United Technologies Corporation's Pratt & Whitney Group for all off-wing maintenance on the PW 4462 engines that power its MD-11 aircraft. Under this contract, the manufacturer agreed to provide such maintenance services at a cost not to exceed specified rates per hour during the term of the contract. The specified rates per hour are subject to annual escalation, increasing substantially in 1998. Accordingly, while the Company believes the terms of this agreement have resulted in lower engine maintenance costs than it otherwise would incur, engine maintenance costs will increase substantially during the last five years of the agreement. The Company began to accrue these increased expenses in 1997 and such expenses will continue to increase during the remainder of the term of the contract as the Company's aircraft fleet ages. OPERATING LOSSES While the Company generated operating income each year from 1987 through 1992 and in 1995, it sustained operating losses in 1993 and 1994 of $7.3 million and $5.2 million, respectively, and net losses of $9.0 million in each of these two years. For the year ended December 31, 1996, the Company incurred a net loss of $14.0 million, which resulted from operating losses incurred in the Company's scheduled service operations, which were discontinued in 1996, and the related estimated loss on disposal. Earnings from continuing operations were $18.4 million for 1996. While the Company generated operating income for the year ended December 31, 1997 of $16.9 million, there can be no assurance that the Company will be able to continue generating operating income for 1998 or future years. CONTROL BY WORLDCORP; POTENTIAL CONFLICTS OF INTEREST As of January 23, 1998, WorldCorp owned approximately 51.2% of the outstanding World Airways common stock. WorldCorp is a holding company that owns positions in two companies: InteliData and World Airways. WorldCorp is highly leveraged and therefore requires substantial funds to cover debt service each year. As a holding company, all of WorldCorp's funds are generated through its subsidiaries, neither of which is expected to pay dividends in the foreseeable future. As a result of WorldCorp's cash requirements, it may be required to sell additional shares of common stock, and such sales, or the threat of such sales, could have a material adverse effect on the market price of the common stock. Except as limited by contractual arrangements with MHS, WorldCorp also is in a position to control the outcome of many issues submitted to World Airways' stockholders, including the election of all of World Airways' Board of Directors, adoption of amendments to World Airways' Certificate of Incorporation, and approval of mergers. In connection with a $15.0 million loan from a commercial bank (the "Bank Loan"), WorldCorp had pledged all of the shares of common stock beneficially owned by WorldCorp (the "WorldCorp Shares"). The Bank Loan was scheduled to mature on September 29, 1997. On September 18, 1997, the Company purchased 3,227,000 of its common stock from WorldCorp for approximately $24.7 million in cash. WorldCorp used a portion of these proceeds to retire the Bank Loan prior to its maturity. Subsequent to year-end, the Company loaned WorldCorp $1.75 million, which was used by WorldCorp to pay debt obligations. The loan is collateralized by one million shares of the Company's stock owned by WorldCorp and bears interest at prime plus 2.5%. RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 1997 COMPARED TO YEAR ENDED DECEMBER 31, 1996 Total block hours decreased 6,745 hours, or 13%, to 43,780 hours in 1997 from 50,525 hours in 1996, with an average of 12.9 available aircraft per day in 1997 compared to 14.1 in 1996. Average daily utilization (block hours flown per day per aircraft) decreased to 9.3 hours in 1997 from 9.8 hours in 1996. In 1997, the Company continued to obtain a higher percentage of its revenues under wet lease contracts as opposed to full service contracts. In 1997, wet lease contracts accounted for 81% of total block hours, an increase from 68% in 1996. Continuing Operations Block hours from continuing operations decreased slightly to 43,780 hours in 1997 from 43,897 hours in 1996. Operating Revenues. Revenues from flight operations increased $9.9 million, or 3%, in 1997 to $306.8 million from $296.9 million in 1996. Revenues in 1997 included approximately $11.2 million related to minimum guarantee payments received from Malaysian Airlines for flying levels which did not meet the minimum monthly levels specified in the contracts, and $3.0 million related to contract modification payments received from Philippine Airlines, for which the Company incurred no related variable costs. Operating Expenses. Total operating expenses increased $4.7 million, or 2%, in 1997 to $292.6 million from $287.9 million in 1996. Flight operations expenses include all expenses related directly to the operation of the aircraft other than aircraft costs, fuel and maintenance. Also included are expenses related to flight dispatch and flight operations administration. Flight operations expenses increased $2.7 million, or 4%, in 1997 to $71.8 million from $69.1 million in 1996. This increase resulted primarily from higher crew costs relating to an accrual for the profit sharing bonus plan, an increase in wage rates including an increase in the guarantee payment, and an increase in training costs relating to crewmember attrition, partially offset by the shift in the mix of business from full service to wet lease operations. Flight attendant costs remained consistent despite the shift to wet lease operations as a result of flight attendants receiving minimum guarantee payments. Maintenance expenses increased $5.5 million, or 9%, in 1997 to $66.0 million from $60.5 million in 1996. This increase resulted primarily from the increase in the number of aircraft dedicated to the Company's continuing operations and the integration of additional aircraft into the fleet during 1996. In addition, the Company experienced an increase in costs associated with the MD-11 aircraft and related engines as a result of certain manufacturer guarantees and warranties which began to expire in 1995 and will fully expire by 1998. The Company expects its maintenance expense to increase further in 1998 due to escalations in the specified rates per hour under the Company's maintenance agreement. The increase was partially offset by a reversal in 1997 of $1.0 million of accrued maintenance expense in excess of the cost of an overhaul of a DC-10 aircraft. Aircraft costs increased $6.2 million, or 7%, in 1997 to $91.4 million from $85.2 million in 1996. This increase resulted from the increase in the number of aircraft dedicated to the Company's continuing operations, primarily due to the lease of two MD-11ER aircraft in March 1996, and the lease of additional spare engines necessary to maintain the expanded fleet. This increase was partially offset by the reversal of approximately $0.9 million in lease costs, which had been recorded in 1996, as a result of a settlement with the engine manufacturer for reimbursements related to disputed spare engine lease charges. Fuel expenses decreased $1.7 million, or 9%, in 1997 to $17.6 million from $19.3 million in 1996. This decrease is due primarily to the shift from full service to wet lease operations where the Company is not responsible for fuel costs. This decrease was partially offset by an increase in price per gallon. Promotions, sales and commissions increased $1.4 million, or 17%, in 1997 to $9.6 million from $8.2 million in 1996. This increase resulted primarily from an increase in commissions related to increased flying during 1997 under the Philippine Airlines contract. Depreciation and amortization increased $0.7 million, or 9%, in 1997 to $8.7 million from $8.0 million in 1996. This increase resulted primarily from depreciation on the increased levels of spare parts required to support the additional MD-11 aircraft described above, partially offset by a decrease in the amortization of certain intangible assets. General and administrative expenses increased $0.2 million, or 1%, in 1997 to $24.9 million from $24.7 million in 1996. This increase was primarily due to the hiring of additional administrative personnel, beginning in the second quarter of 1996, necessary to support the growth in the Company's core business and related marketing efforts and an increase in property tax accruals. This increase was partially offset by a reduction in certain legal and professional fees. Interest expense increased $1.9 million, or 54%, in 1997 to $5.4 million from $3.5 million in 1996. This increase resulted primarily from the issuance of $50.0 million of 8% senior subordinated debentures on August 26, 1997. Discontinued Operations The Company commenced service between Tel Aviv and New York in July 1995. In the first quarter of 1996, the Company generated $4.2 million in losses related to these operations. In the second quarter of 1996, the Company expanded its scheduled service operations with service between the United States and South Africa and introduced scheduled charter operations between the United States and various destinations within Europe. As the Company was unable to operate these scheduled service operations profitably, in July 1996, the Company announced its decision to exit its scheduled service operations by October 1996 and focus its operations on its core wet lease operations. Consistent with this decision, World Airways ceased all scheduled operations as of October 27, 1996. As a result, the Company's scheduled service operations were reflected as discontinued operations as of June 30, 1996, and prior period results were restated to reflect scheduled service operations as discontinued operations. Loss from discontinued operations (net of income tax effect) approximated $11.7 million for the year ended December 31, 1996. In addition, an estimated loss on disposal of $21.0 million (net of income tax effect) was recorded as of June 30, 1996. The Company recognized an additional $0.5 million of expense in the fourth quarter of 1997 and believes that substantially all the costs relating to the disposal have been recorded as of December 31, 1997. The Company is subject to claims arising as a result of the discontinuance of its scheduled service operations, but the Company believes it has substantial defenses to these actions. YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995 Total block hours increased 13,183 hours, or 35%, to 50,525 hours in 1996 from 37,342 hours in 1995, with an average of 14.1 available aircraft per day in 1996 compared to 10.3 in 1995. Average daily utilization (block hours flown per day per aircraft) decreased to 9.8 hours in 1996 from 9.9 hours in 1995. In 1996, the Company continued to obtain a higher percentage of its revenues under wet lease contracts as opposed to full service contracts. In 1996, wet lease contracts accounted for 68% of total block hours, consistent with 70% in 1995. Total operating revenues increased $67.2 million, or 28%, to $309.6 million in 1996 from $242.4 million in 1995. Continuing Operations Block hours from continuing operations increased 8,269 hours, or 23%, to 43,897 hours in 1996 from 35,628 hours in 1995. Operating Revenues. Revenues from flight operations increased $64.3 million, or 28%, to $296.9 million in 1996 from $232.6 million in 1995. This increase was primarily attributable to an increase in military flying and an increase in revenues generated from its 1996 Hadj operations and services to certain international carriers, partially offset by a decrease in cargo operations resulting from a shift in the mix of business during 1996. Operating Expenses. Total operating expenses increased $61.4 million, or 27%, in 1996 to $287.9 million from $226.5 million in 1995. Flight operations expenses include all expenses related directly to the operation of the aircraft other than aircraft cost, fuel and maintenance. Also included are expenses related to flight dispatch and flight operations administration. Flight operations expenses increased $5.5 million, or 9%, in 1996 to $69.1 million from $63.6 million in 1995. This increase resulted primarily from an increase in block hours flown and higher crew costs and up-front training expenses in connection with the integration of additional aircraft into the fleet. These increases were partially offset by a decrease in accrued profit sharing expenses. In 1995, the Company accrued profit sharing expenses as a result of earnings experienced during that period. No such accrual was necessary in 1996 as a result of losses from the discontinuation of scheduled service operations. Maintenance expenses increased $18.7 million, or 45%, in 1996 to $60.5 million from $41.8 million in 1995. This increase resulted primarily from the integration of additional aircraft into the fleet and a corresponding increase in block hours flown. In addition, the Company experienced an increase in costs associated with the MD-11 aircraft and related engines as a result of certain manufacturer guarantees and warranties which began to expire in 1995 and will fully expire by 1998. Aircraft costs increased $17.9 million, or 27%, in 1996 to $85.2 million from $67.3 million in 1995. This increase was primarily due to the lease of two MD-11ER aircraft in the first quarter of 1996 and the lease of incremental DC10-30 aircraft which began in the second and fourth quarters of 1995 and the first quarter of 1996, partially offset by the return of two DC10-30 aircraft to the lessor in the third quarter of 1995. Fuel expenses increased $2.6 million, or 16%, in 1996 to $19.3 million from $16.7 million in 1995. This increase is due primarily to an increase in fuel utilized in connection with its military operations and a slight increase in price per gallon. Promotions, sales and commissions increased $4.6 million in 1996 to $8.2 million from $3.6 million in 1995. This increase resulted primarily from commissions paid in connection with the new Philippine Airlines contract and an increase in teaming arrangement commissions associated with the larger fixed-award contract received from the U.S. Air Force beginning October 1995. Depreciation and amortization increased $1.9 million, or 31%, in 1996 to $8.0 million from $6.1 million in 1995. This increase resulted primarily from an increase in spare parts required to support the additional MD-11 aircraft and incremental DC10-30 aircraft described above. General and administrative expenses increased $6.5 million, or 36%, in 1996 to $24.7 million from $18.2 million in 1995. This increase was primarily due to the hiring of additional administrative personnel necessary to support the growth in the Company's core business and an increase in certain legal and professional fees. Discontinued Operations The Company commenced service between Tel Aviv and New York in July 1995. In the first quarter of 1996, the Company generated $4.2 million in losses related to these operations. In the second quarter of 1996, the Company expanded its scheduled service operations with service between the United States and South Africa and introduced scheduled charter operations between the United States and various destinations within Europe. As the Company was unable to operate these scheduled service operations profitably, in July 1996, the Company announced its decision to exit its scheduled service operations by October 1996 and focus its operations on its core wet lease operations. Consistent with this decision, World Airways ceased all scheduled operations as of October 27, 1996. As a result, the Company's scheduled service operations were reflected as discontinued operations as of June 30, 1996, and prior period results were restated to reflect scheduled service operations as discontinued operations. Loss from discontinued operations (net of income tax effect) approximated $11.7 million for the year ended December 31, 1996. In addition, an estimated loss on disposal of $21.0 million (net of income tax effect) was recorded as of June 30, 1996. LIQUIDITY AND CAPITAL RESOURCES The Company is highly leveraged. The Company incurred substantial debt and lease commitments during the past four years in connection with its acquisition of MD-11 aircraft and related spare parts. In addition, the Company issued $50.0 million of convertible debentures in August 1997, as discussed below. As of December 31, 1997, the Company had outstanding long-term debt and capital leases of $75.1 million, and notes payable and current maturities of long-term obligations, including debt service costs, of $20.6 million. In addition, the Company has significant future long-term obligations under aircraft lease obligations relating to its aircraft. The Company has historically financed its working capital and capital expenditure requirements out of cash flow from operating activities, public and private sales of its common stock, secured borrowings, and other financings from banks and other lenders. The degree to which the Company is leveraged could have important consequences to holders of common stock, including the following: (i) World Airways' ability to obtain additional financing in the future for working capital, capital expenditures, acquisitions or other purposes may be limited; (ii) a substantial portion of the Company's cash flow from operations must be dedicated to the payment of principal and interest on its indebtedness; (iii) World Airways' degree of leverage and related debt service obligations, as well as its obligations under operating leases for aircraft, may make it more vulnerable than some of its competitors in a prolonged economic downturn; (iv) World Airways' ability to meet its payment obligations under existing and future indebtedness, capital leases and operating leases may be limited; and (v) World Airways' financial position may restrict its ability to pursue new business opportunities and limit its flexibility in responding to changing business conditions. On August 26, 1997, the Company completed a private offering, issuing $50.0 million of 8% convertible senior subordinated debentures due in 2004, which were subsequently registered with the Securities and Exchange Commission. The Debentures are unsecured obligations, convertible into shares of the Company's common stock at $8.90 per share, subject to adjustment in certain events, and subordinated to all present and future senior indebtedness of the Company. In the event of a change in control of the Company, as defined, the holders of the Debentures could require the Company to repurchase the outstanding Debentures. The Debentures are not redeemable by the Company prior to August 26, 2000. The Company's intended use of the net proceeds was to repurchase approximately 4.0 million shares of its common stock, repay certain indebtedness, increase working capital and for general corporate purposes. After completion of the Offering, the Company repaid approximately $3.8 million as full settlement of an outstanding spare parts loan. In addition, failure by the Company to repurchase at least 4.0 million shares of common stock within 150 days after the sale of the Debentures would constitute a repurchase event whereby each holder of the Debentures would have the right, at the holder's option, to require the Company to repurchase such holder's Debentures at 100% of their principal amount, plus accrued interest. In connection with the above-mentioned Offering, the Company and WorldCorp entered into an agreement on August 20, 1997 for the purchase by World Airways of up to 4.0 million shares of common stock owned by WorldCorp at a purchase price of $7.65 per share. On September 18, 1997, the Company purchased 3,227,000 shares of its common stock from WorldCorp for approximately $24.7 million. MHS has certain rights under a shareholders agreement, dated as of February 3, 1994, as amended, among WorldCorp, MHS and the Company. This agreement includes a provision that provides that if WorldCorp were to dispose of its holdings in the Company with the result that WorldCorp's ownership interest in the Company falls below 51% of the outstanding shares of common stock, then MHS may either sell its shares to a third party or require WorldCorp to sell a pro rata number of shares held by MHS to the party purchasing WorldCorp's shares. Therefore, as a result of the repurchase of 3,227,000 shares of common stock by World Airways from WorldCorp, MHS had the right to sell, and accordingly sold, 773,000 shares of common stock to World Airways for approximately $5.9 million, effective January 23, 1998. World Airways' cash and cash equivalents at December 31, 1997 and December 31, 1996 were $25.9 million and $7.0 million, respectively. As is common in the airline industry, World Airways operates with a working capital deficit. At December 31, 1997, World Airways' current assets were $54.1 million and current liabilities were $55.9 million. World Airways has substantial long-term aircraft lease obligations with respect to its current aircraft fleet. In addition, subsequent to year-end, the Company used approximately $5.9 million of its cash balance to purchase the aforementioned 773,000 shares of common stock, and loaned WorldCorp $1.75 million, which was used by WorldCorp to pay debt obligations. In 1996, World Airways instituted a program to purchase up to one million shares of its publicly-traded common stock pursuant to open market transactions. As of March 6, 1998, World Airways had purchased 770,000 shares of common stock at an aggregate cost of approximately $7.9 million pursuant to such program. The Company does not intend to purchase any additional shares at this time. In the event that World Airways enters into leases for additional aircraft, World Airways will need to make capital expenditures for additional spare engines and parts. No assurances can be given, however, that World Airways will obtain all of the financing required for such capital expenditures. Although there can be no assurances, World Airways believes that the combination of its existing contracts and additional business which it expects to obtain for 1998, along with its existing cash and financing arrangements, will be sufficient to allow World Airways to meet its cash requirements related to the operating and capital requirements for 1998. CASH FLOWS FROM OPERATING ACTIVITIES Operating activities provided $22.1 million in cash for the year ended December 31, 1997 compared to using $1.5 million of cash in the comparable period in 1996. This increase in cash in 1997 resulted primarily from the increase in net earnings and a decrease in accounts receivable, partially offset by a decrease in accounts payable. CASH FLOWS FROM INVESTING ACTIVITIES Investing activities used $4.3 million in cash for the year ended December 31, 1997, compared to $9.1 million in the comparable period in 1996. In 1997, cash was used primarily for the purchase of rotable spare parts required to maintain the current fleet as well as leasehold improvements on the aircraft. In 1996, cash was used primarily for the purchase of rotable spare parts required for the integration of two MD-11 aircraft and incremental aircraft and leasehold improvements required on one of the DC-10 aircraft obtained in late 1995. CASH FLOWS FROM FINANCING ACTIVITIES Financing activities provided $1.1 million in cash for the year ended December 31, 1997 compared to using $7.6 million in the comparable period in 1996. This increase in cash resulted primarily from the $50.0 million proceeds of the Offering in 1997 offset by the purchase of shares of the Company's common stock from WorldCorp for an aggregate cost of $24.7 million and the repayment of debt. CAPITAL COMMITMENTS/FINANCING DEVELOPMENTS In October 1992 and January 1993, the Company signed a series of agreements to lease seven new MD-11 aircraft for initial lease terms of two to five years, renewable for up to 10 years (and in the case of one aircraft, for 13 years) by the Company with increasing rent costs. As of March 1995, the Company had taken delivery of all seven aircraft, consisting of four passenger MD-11 aircraft, one freighter MD-11, and two passenger/cargo convertible MD-11s. The Company returned one aircraft in August 1997. As part of the lease agreements, the Company was assigned purchase options for four additional MD-11 aircraft. In 1992, the Company made non-refundable deposits of $1.2 million toward the option aircraft and the purchase options were terminated. In March 1996, the Company signed an agreement with the manufacturer to lease two MD-11ER aircraft. Under the agreement, the Company leased each aircraft for a term of 24 years with an option to return the aircraft after a seven-year period with certain fixed termination fees. As part of the agreement, the above-mentioned deposits were applied towards the deposits required on these two aircraft. In addition, the Company agreed to assume an existing lease of two additional MD-11 freighter aircraft for 20 years, beginning in 1999, in the event that the existing lessee terminates its lease with the manufacturer at that time. As of December 31, 1997, World Airways maintains leases for four DC10-30 aircraft. Three of the leases expire in 1998 and one expires in 2003. Subsequent to December 31, 1997, the Company extended one of the leases expiring in 1998 for an additional 12 months. Subsequent to year-end, the Company renewed and amended a revolving line of credit facility of up to $25.0 million, collateralized by certain receivables, inventory and equipment. The proceeds from this facility will be used to increase working capital and for general corporate purposes. In September 1995, the Company agreed to purchase a spare engine which was delivered in March 1996. The engine cost approximately $8.0 million. The Company entered into an agreement with the engine's manufacturer to finance 80% of the purchase price over a seven-year term. The Company made payments of $0.7 million, $0.4 million and $1.2 million towards this purchase in 1997, 1996, and 1995, respectively. In January 1996, the Company agreed to purchase an additional engine and received a commitment from the engine manufacturer to finance 85% of its purchase price over a seven-year term with an interest rate to be fixed at the time of delivery. In June 1997, the Company took delivery of the engine and signed a note for $6.3 million. The note bears interest at a rate of 8.18% and is payable over an 84-month period at approximately $48,000 per month with the balance of $2.2 million due on June 18, 2004. As discussed above, the Company signed an agreement for the lease of two MD-11ER aircraft beginning in the first quarter of 1996 to provide additional capacity for growth opportunities. As part of the agreement for the MD-11 aircraft, the Company received spare parts financing from the lessor of $9.0 million of which $3.0 million was made available with the delivery of each aircraft, and the remaining $3.0 million was made available in December 1996. As of December 31, 1997, approximately $7.9 million had been received. As of December 31, 1997, annual minimum payments required under the Company's aircraft and lease obligations totaled $79.5 million for 1998. The Company anticipates that its total capital expenditures in 1998 will approximate $4.1 million, which the Company expects to fund from its working capital. As of December 31, 1997, the Company held approximately $3.2 million (at book value) of aircraft spare parts currently available for sale. OTHER MATTERS LEGAL AND ADMINISTRATIVE PROCEEDINGS World Airways has periodically received correspondence from the FAA with respect to minor noncompliance matters. In November 1996, as the FAA has increased its scrutiny of U.S. airlines, World Airways was assessed a preliminary fine of $810,000 in connection with certain security violations by ground handling crews contracted by World Airways for services at foreign airport locations. Under 49 U.S.C., Section 46301, any violation of pertinent provisions of 49 U.S.C. Subsection 40101 or related rules is subject to a civil penalty for each violation. Upon review of the evidence or facts and circumstances relating to the violation, the statute allows for the compromise of proposed civil penalties. The penalties were proposed by the FAA in connection with recent inspections at foreign airport facilities and relate primarily to ground handling services provided by World Airways' customers in connection with their operations; specifically, the inspection procedures of its aircraft, passengers and associated cargo. In each of these instances, World Airways was in compliance with international regulations, but not the more stringent U.S. requirements, despite the fact that the flights in question did not originate or terminate in the United States. World Airways has taken steps to comply with the U.S. requirements. In September 1997, the Company entered into a consent order and settlement agreement with the FAA in connection with the above-mentioned alleged violations. Pursuant to this agreement, the Company is liable for the sum of $610,000, of which $405,000 was paid in September. The remaining $205,000 was suspended and will be forgiven if the Company complies with the provisions of the settlement agreement, including not incurring any security violations during the one year period following the execution of the settlement agreement. While World Airways believes it is currently in compliance in all material respects with all appropriate standards and has all required licenses and authorities, any material non-compliance by World Airways therewith or the revocation or suspension of licenses or authorities could have a material adverse effect on the financial condition or results of operations of World Airways. World Airways and WorldCorp (the "World Defendants") were defendants in litigation brought by the Committee of Unsecured Creditors of Washington Bancorporation in August 1992, captioned Washington Bancorporation v. Boster et. al., Adv. Proc. 92-0133 (Bankr. D.D.C.) (the "Boster Litigation"). Under a settlement agreement, the plaintiff agreed to dismiss with prejudice the Boster Litigation against all defendants, including the World Defendants, with each party to bear its own costs. Under the settlement agreement, the World Defendants do not have any further liability in the Boster Litigation. In connection with the discontinuance of World Airways' scheduled service operations, World Airways is subject to claims by various third parties and may be subject to further claims in the future. One claim which had been filed in connection with World Airways' discontinuance of scheduled service to South Africa, and which sought approximately $37.8 million in compensatory and punitive damages, has been settled by the parties for approximately $0.7 million. Also, a claim has been filed in Germany against the Company by a tour operator seeking approximately $3.5 million in compensation related to the cancellation of a summer program in 1996. The Company believes it has substantial defenses to this action, although no assurance can be given of the eventual outcome of this litigation. In addition, World Airways is party to routine litigation and administrative proceedings incidental to its business, none of which is believed by World Airways to be likely to have a material adverse effect on the financial condition and results of operations of World Airways. EMPLOYEES The Company's cockpit crew members, who are represented by the International Brotherhood of Teamsters (the "Teamsters"), are subject to a four-year collective bargaining agreement that will become amendable in July 1998. Approximately 37% of the Company's employees are covered under the collective bargaining agreement. The Company expects to begin negotiations in April 1998 and cannot predict the outcome of the negotiations or their possible impact on the Company's financial condition and results of operations. The Company's flight attendants, who are also represented by the Teamsters, are subject to a four-year collective bargaining agreement that will expire in August 2000. The Company's flight attendants argued the "scope clause" of the collective bargaining agreement had been violated by the Company and challenged the use of foreign flight attendant crews on the Company's flights for Malaysian Airlines and Garuda Indonesia which has historically been the Company's operating procedure. The Company is contractually obligated to permit its Southeast Asian customers to deploy their own flight attendants. While the arbitrator in this matter denied in 1997 the Union's request for back pay to affected flight attendants for flying relating to the 1994 Hadj, the arbitrator concluded that the Company's contract with its flight attendants requires the Company to first actively seek profitable business opportunities that require using the Company's flight attendants, before the Company may accept wet lease business opportunities that use the flight attendants of the Company's customers. Subsequently, in 1997, the flight attendants challenged and filed "scope clause" grievances with respect to four separate wet-lease contracts. The Company and the Teamsters are presently in discussions regarding these grievances. At this time, however, the Company can give no assurance that these discussions will be successful and the grievances will not be submitted to formal arbitration. The Company can provide no assurances as to how the resolution of this matter will affect the Company's financial condition and results of operations. The Company's aircraft dispatchers are represented by the Transport Workers Union (the "TWU"). This contract became amendable on June 30, 1993. In May 1995, the parties reached agreement with respect to a new four-year contract. This contract was ratified in February 1996. Fewer than 12 Company employees are covered by this collective bargaining agreement. The Company is unable to predict whether any of its employees not currently represented by a labor union will elect to be represented by a labor union or collective bargaining unit. The election by such employees of representation in such an organization could result in employee compensation and working condition demands that could have a material adverse effect on the financial results of the Company. DIVIDEND POLICY The Company has not declared or paid any cash dividends or distributions on its common stock since the payment of a distribution to WorldCorp in 1992. The Company currently intends to retain its future earnings, if any, to fund the development and growth of its business and, therefore, does not anticipate paying any cash dividends in the foreseeable future. Any future decision concerning the payment of dividends on its common stock will depend upon the results of operations, financial condition, capital expenditure plans of the Company, provisions of certain financing instruments as well as such other factors as the Board of Directors, in its sole discretion, may consider relevant. Under the terms of the shareholders agreement among the Company, WorldCorp, and MHS, the Company has agreed to declare and distribute all dividends properly payable, subject to the requirements of law and general overall financial prudence. The Credit Agreement with BNY Financial Corporation (as amended in March 1998, the "Credit Agreement") contains restrictions on the Company's ability to pay dividends or make any distributions of common stock in excess of 5% of the total aggregate outstanding amount of stock, except that the Company may make quarterly dividends so long as in any six month period, such dividends do not exceed 50% of the Company's aggregate net income for the previous six months. WorldCorp is subject to the provisions of an indenture, expiring in 2004, which causes the Company not to pay dividends upon the occurrence of any events of default by WorldCorp under the indenture. However, the indenture is not applicable to World Airways if WorldCorp's ownership percentage is below 50% of the issued and outstanding shares of common stock. As of January 23, 1998, WorldCorp owned approximately 51.2% of the outstanding common stock. INCOME AND OTHER TAXES As of December 31, 1997, World Airways had net operating loss carryforwards ("NOLs") for federal income tax purposes of approximately $92.2 million ($27.8 million of which is subject to a $6.9 million annual limitation as a result of an ownership change of World Airways for tax purposes in 1991). These NOLs, if not utilized to offset taxable income in future periods, would expire between 1998 and 2011. Use of World Airways' NOLs in future years could be further limited if an Ownership Change were to occur in the future. While World Airways believes that as of December 31, 1997, no Ownership Change has occurred since the 1991 Ownership Change, the application of the Internal Revenue Code (the "Code") in this area is subject to interpretation by the Internal Revenue Service. The NOLs are subject to examination by the IRS and, thus, are subject to adjustment or disallowance resulting from any such IRS examination. In addition, conversion of the Debentures or future transactions in the Company's common stock or the common stock of the Company's stockholders, including conversions of a portion of the outstanding WorldCorp debentures into common stock, may cause an Ownership Change, which could result in a substantial reduction in the annual limitation in the use of the NOLs and the loss of a substantial portion of the NOLs available to the Company. YEAR 2000 The Company has begun a comprehensive review of its computer system to identify the systems that could be affected by the "Year 2000" issue and is developing an implementation plan to resolve the issue. The Year 2000 problem is the result of computer programs being written using two digits rather than four to define the applicable year. Any of the Company's programs that have time-sensitive software may recognize a date using "00" as the year 1900 rather than the year 2000. This could result in a major system failure or miscalculations. The Company presently believes that, with modifications to existing software and converting to new software, the Year 2000 problem will not pose significant operational problems for the Company's computer systems as so modified and converted. However, if such modifications and conversion are not completed timely, the Year 2000 problem may have a material impact on the operations of the Company. The Company has not yet estimated the cost of modifying its computer systems. EFFECTS OF NEW ACCOUNTING STANDARDS In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 130 (FAS No. 130), "Reporting Comprehensive Income". FAS No. 130 established standards for the reporting and display of comprehensive income and its components in the financial statements. The Company is required to adopt the provisions of this Statement for fiscal years beginning after December 15, 1997. Earlier application is permitted, however, upon adoption the Company will be required to reclassify previously reported annual and interim financial statements. The Company believes that the disclosure of comprehensive income in accordance with the provisions of FAS No. 130 will not materially impact the manner of presentation of its financial statements as currently and previously reported. In June 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 131 (FAS No. 131), "Disclosure about Segments of an Enterprise and Related Information". FAS No. 131 requires the Company to present certain information about operating segments and related information, including geographic and major customer data, in its annual financial statements and in condensed financial statements for interim periods. The Company is required to adopt the provisions of this Statement for fiscal years beginning after December 15, 1997. Earlier application is permitted, however, upon adoption the Company will be required to restate previously reported annual segment and related information in accordance with the provisions of FAS No. 131. The Company has not completed its analysis of the impact on the financial statements that will be caused by the adoption of this Statement. INFLATION The Company believes that inflation has not had a material effect on the Company's revenues during the past three years. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA WORLD AIRWAYS, INC. BALANCE SHEETS ASSETS (IN THOUSANDS)
December 31, ---------------------------- 1997 1996 ----------- ---------- CURRENT ASSETS Cash and cash equivalents, including restricted cash of $498 at December 31, 1997 and $338 at December 31, 1996 (Note 17) $ 25,887 $ 7,028 Restricted short-term investments (Notes 7 and 17) -- 1,047 Trade accounts receivable, less allowance for doubtful accounts of $498 at December 31, 1997 and $413 at December 31, 1996 (Notes 10 and 15) 7,747 14,093 Other receivables (Note 11) 9,485 4,464 Due from affiliate, less allowance for doubtful accounts of $475 at December 31, 1997 (Note 5) 2,471 5,548 Prepaid expenses and other current assets (Note 8) 7,995 7,778 Assets held for sale (Notes 9 and 11) 500 500 ------- ------ Total current assets 54,085 40,458 ------- ------- ASSETS HELD FOR SALE (Notes 9 and 11) 2,734 3,426 EQUIPMENT AND PROPERTY (Notes 9 and 11) Flight and other equipment 86,774 72,089 Equipment under capital leases 12,266 11,466 ------- ------- 99,040 83,555 Less: accumulated depreciation and amortization 25,603 18,553 ------- ------- Net equipment and property 73,437 65,002 ------- ------- LONG-TERM OPERATING DEPOSITS (Note 11) 16,059 15,951 OTHER ASSETS AND DEFERRED CHARGES, NET (Notes 5 and 8) 2,833 2,687 ------- -------- TOTAL ASSETS $ 149,148 $ 127,524 ======= ======= (Continued)
WORLD AIRWAYS, INC. BALANCE SHEETS (CONTINUED) LIABILITIES AND COMMON STOCKHOLDERS' EQUITY (DEFICIT) (IN THOUSANDS)
December 31, --------------------------- 1997 1996 ----------- ----------- CURRENT LIABILITIES Notes payable (Note 10) $ 4,039 $ 11,386 Current maturities of long-term obligations (Note 11) 9,856 9,046 Accounts payable 19,824 22,349 Net liabilities of discontinued operations (Note 3) -- 1,834 Unearned revenue 2,486 3,046 Accrued maintenance in excess of reserves paid 2,481 9,770 Accrued salaries and wages 10,976 9,351 Accrued taxes 1,386 1,225 Due to affiliate (Note 5) 3,304 1,850 Other accrued liabilities 1,553 157 -------- -------- Total current liabilities 55,905 70,014 -------- -------- LONG-TERM OBLIGATIONS, NET (Note 11) 75,071 30,106 OTHER LIABILITIES Deferred gain from sale-leaseback transactions, net of accumulated amortization of $20,156 at December 31, 1997 and $19,099 at December 31, 1996 5,195 6,252 Accrued maintenance in excess of reserves paid 10,575 6,867 Accrued postretirement benefits (Note 12) 2,752 2,545 Other liabilities 4,421 3,378 -------- -------- Total other liabilities 22,943 19,042 -------- -------- TOTAL LIABILITIES 153,919 119,162 -------- -------- COMMON STOCKHOLDERS' EQUITY (DEFICIT) (Notes 1, 4, 5, 11, 12 and 16) Common stock, $.001 par value (40,000,000 shares authorized; 12,000,064 shares issued and 8,003,064 outstanding at December 31, 1997 and 12,000,064 shares issued and 11,282,064 outstanding at December 31, 1996) 12 12 Preferred stock, $.001 par value (5,000,000 shares authorized and no shares issued or outstanding at December 31, 1997 and 1996) -- -- Additional paid-in capital 42,522 42,522 Contributed capital 3,000 3,000 Accumulated deficit (17,554) (29,006) ESSOP guaranteed bank loan (Note 12) (227) (805) Treasury stock, at cost (3,997,000 shares at December 31, 1997 and 718,000 shares at December 31, 1996) (Notes 1, 4 and 5) (32,524) (7,361) -------- --------- Total common stockholders' equity (deficit) (4,771) 8,362 -------- --------- COMMITMENTS AND CONTINGENCIES (Notes 2, 4, 5, 10, 11, 12, 14, 15 and 17) TOTAL LIABILITIES AND COMMON STOCKHOLDERS' EQUITY (DEFICIT) $ 149,148 $ 127,524 ======= ======= See accompanying Notes to Financial Statements
WORLD AIRWAYS, INC. STATEMENTS OF OPERATIONS (IN THOUSANDS)
Years Ended December 31, ---------------------------------------------- 1997 1996 1995 ---- ---- ---- OPERATING REVENUES (Note 15) Flight operations $ 306,800 $ 296,930 $ 232,623 Flight operations subcontracted to other carriers 2,058 11,726 8,598 Other 554 931 1,165 -------- -------- -------- Total operating revenues 309,412 309,587 242,386 ------- ------- ------- OPERATING EXPENSES Flight 71,845 69,128 63,584 Maintenance (Notes 5, 11 and 17) 65,972 60,462 41,843 Aircraft costs (Notes 5 and 11) 91,422 85,227 67,331 Fuel 17,615 19,255 16,704 Flight operations subcontracted to other carriers 2,603 12,932 9,096 Promotions, sales and commissions 9,569 8,229 3,634 Depreciation and amortization 8,651 8,032 6,056 General and administrative 24,878 24,677 18,240 ------- ------- ------- Total operating expenses 292,555 287,942 226,488 ------- ------- ------- OPERATING INCOME 16,857 21,645 15,898 ------- ------- ------- OTHER INCOME (EXPENSE) Interest expense (Notes 10 and 11) (5,379) (3,529) (3,486) Interest income 1,506 1,230 933 Other, net (Notes 9 and 11) (754) (314) 1,403 -------- -------- -------- Total other expense (4,627) (2,613) (1,150) -------- -------- -------- EARNINGS FROM CONTINUING OPERATIONS BEFORE INCOME TAXES 12,230 19,032 14,748 INCOME TAX EXPENSE (Note 14) 263 679 602 -------- -------- -------- EARNINGS FROM CONTINUING OPERATIONS 11,967 18,353 14,146 DISCONTINUED OPERATIONS (Note 3) Loss from discontinued operations (less applicable income tax benefit of $83 and $306 in 1996 and 1995, respectively) -- (11,720) (5,250) Loss on disposal (less applicable income tax benefit of $562 in 1996) (515) (20,655) -- -------- -------- --------- NET EARNINGS (LOSS) $ 11,452 $ (14,022) $ 8,896 ======== ======== ======== (continued)
WORLD AIRWAYS, INC. STATEMENTS OF OPERATIONS (IN THOUSANDS) (CONTINUED)
Years Ended December 31, --------------------------------------------- 1997 1996 1995 ---- ---- ---- BASIC EARNINGS (LOSS) PER COMMON EQUIVALENT SHARE (Note 13): Continuing operations $ 1.16 $ 1.55 $ 1.35 Discontinued operations (0.05) (2.74) (0.50) --------- --------- --------- Net earnings $ 1.11 $ (1.19) $ 0.85 ========= ========= ========= WEIGHTED AVERAGE COMMON SHARES OUTSTANDING 10,302 11,806 10,477 ======== ======== ======== DILUTED EARNINGS (LOSS) PER COMMON EQUIVALENT SHARE (Note 13): Continuing operations $ 1.09 $ 1.55 $ 1.34 Discontinued operations (0.05) (2.74) (0.50) --------- --------- --------- Net earnings $ 1.04 $ (1.19) $ 0.84 ========= ========= ========= WEIGHTED AVERAGE COMMON AND COMMON EQUIVALENT SHARES OUTSTANDING 12,279 11,806 10,572 ======== ======== ======== See accompanying Notes to Financial Statements
WORLD AIRWAYS, INC. STATEMENTS OF CHANGES IN COMMON STOCKHOLDERS' EQUITY (DEFICIT) YEARS ENDED DECEMBER 31, 1997, 1996, AND 1995 (IN THOUSANDS)
Total Common Additional ESSOP Treasury Stockholders' Common Paid-in Contributed Accumulated Guaranteed Stock, Equity Stock Capital Capital Deficit Bank Loan at Cost (Deficit) ----- ------- ------- ------- --------- ------- --------- BALANCE AT DECEMBER 31, 1994 $ 10 $19,503 $ 3,000 $ (23,880) $ -- $ -- $(1,367) Sale of common stock in public offering, net (Note 1) 2 22,809 -- -- -- -- 22,811 Net earnings -- -- -- 8,896 -- -- 8,896 ------- -------- -------- -------- ------- ------- ------- BALANCE AT DECEMBER 31, 1995 $ 12 $42,312 $ 3,000 $ (14,984) $ -- $ -- $ 30,340 Common stock purchases (718,000 shares)(Notes 1 and 4) -- -- -- -- -- (7,361) (7,361) Employee Savings and Stock Ownership Plan guaranteed bank loan (Note 12) -- -- -- -- (805) -- (805) Issuance of warrants (Note 11) -- 210 -- -- -- -- 210 Net loss -- -- -- (14,022) -- -- (14,022) ------- -------- -------- -------- ------- --------- -------- BALANCE AT DECEMBER 31, 1996 $ 12 $42,522 $ 3,000 $ (29,006) $ (805) $(7,361) $ 8,362 Common stock purchases (3,279,000 shares) (Notes 1 and 4) -- -- -- -- -- (25,163) (25,163) Employee Savings and Stock Ownership Plan guaranteed bank loan payments (Note 12) -- -- -- -- 578 -- 578 Net earnings -- -- -- 11,452 -- -- 11,452 ------- -------- -------- -------- ------- ------- ------- BALANCE AT DECEMBER 31, 1997 $ 12 $42,522 $ 3,000 $ (17,554) $ (227) $(32,524) $(4,771) ======= ====== ====== ======== ====== ======== ======= See accompanying Notes to Financial Statements
WORLD AIRWAYS, INC. STATEMENTS OF CASH FLOWS (IN THOUSANDS)
Years Ended December 31, ---------------------------------------------- 1997 1996 1995 ---- ---- ---- CASH AND CASH EQUIVALENTS AT BEGINNING OF YEAR (Note 6) $ 7,028 $ 25,271 $ 4,054 CASH FLOWS FROM OPERATING ACTIVITIES Net earnings (loss) 11,452 (14,022) 8,896 Adjustments to reconcile net earnings (loss) to cash provided (used) by operating activities: Depreciation and amortization 8,651 8,032 6,056 Deferred gain recognition (1,057) (1,058) (1,063) Deferred aircraft rent payments, net -- -- 153 (Gain) loss on sale of property and equipment 108 (32) (55) Writedown of assets held for sale 500 400 -- Loss on disposal of discontinued operations -- 1,734 -- Other 18 14 277 Changes in certain assets and liabilities net of effects of non-cash transactions: (Increase) decrease in accounts receivable 5,615 (9,286) (10,370) (Increase) decrease in restricted short-term investments 1,047 (138) (241) (Increase) decrease in deposits, prepaid expenses and other assets (298) 1,186 (4,601) (Decrease) increase in accounts payable, accrued expenses and other liabilities (3,385) 21,071 12,172 (Decrease) increase in unearned revenue (560) (7,371) 5,117 (Decrease) increase in air traffic liability -- (2,073) 2,332 ---------- -------- -------- Net cash provided (used) by operating activities 22,091 (1,543) 18,673 -------- -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES Additions to equipment and property (5,467) (9,615) (23,210) Proceeds from disposals of equipment and property 1,183 471 717 -------- --------- --------- Net cash used by investing activities (4,284) (9,144) (22,493) -------- ------- -------- CASH FLOWS FROM FINANCING ACTIVITIES (Decrease) increase in line of credit borrowing arrangement, net (9,354) 5,031 (1,051) Issuance of debt 54,495 10,851 25,240 Repayment of debt (17,333) (15,977) (21,963) Proceeds from sale of common stock, net -- -- 22,811 Purchase of World Airways common stock, at cost (25,163) (7,361) -- Debt issuance costs (1,593) (100) -- -------- -------- ---------- Net cash provided (used) by financing activities 1,052 (7,556) 25,037 -------- -------- -------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 18,859 (18,243) 21,217 -------- -------- -------- CASH AND CASH EQUIVALENTS AT END OF YEAR (Note 6) $ 25,887 $ 7,028 $ 25,271 ======== ========= ======== See accompanying Notes to Financial Statements
WORLD AIRWAYS, INC. NOTES TO FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION World Airways, Inc. ("World Airways" or "the Company") is a U.S. certificated air carrier, which operates in the air transportation industry. Airline operations account for 100% of the Company's operating revenue and operating income. World Airways is a leading provider of long-range passenger and cargo air transportation, serving customers in three distinct markets: major international air carriers; the U.S. Government; and international tour operators in leisure passenger markets. The Company's business relies heavily on its contracts with Malaysian Airline System Berhad ("Malaysian Airlines"), P.T. Garuda Indonesia ("Garuda") and the U.S. Air Force (see Note 15). Effective June 23, 1987, World Airways became a wholly-owned subsidiary of WorldCorp, Inc. ("WorldCorp") pursuant to a Merger Agreement and Plan of Reorganization (the "Plan"). Under the Plan, the shareholders of World Airways exchanged their outstanding common shares, warrants and/or options for common shares, warrants and/or options of WorldCorp in a one-for-one exchange. This transaction was accounted for in a manner similar to a pooling of interests. On October 30, 1993, WorldCorp, World Airways, and MHS Berhad ("MHS") entered into a stock purchase agreement pursuant to which MHS, subject to satisfactory completion of its due diligence investigations, agreed to purchase 24.9% of World Airways' common stock. On February 28, 1994, WorldCorp, World Airways, and MHS concluded the transaction. Effective December 31, 1994, WorldCorp purchased 5% of World Airways' common stock held by MHS, increasing its ownership to 80.1%. Therefore, at December 31, 1994, MHS owned 19.9% of World Airways' common stock (see Note 5). On August 8, 1995, World Airways filed a registration statement on Form S-1 with the Securities and Exchange Commission to register 2,900,000 shares of World Airways' common stock. The offering was completed on October 12, 1995. Of the 2,900,000 shares registered, 2,000,000 shares were issued and sold by World Airways and 900,000 shares were sold by WorldCorp, Inc., the majority shareholder. At December 31, 1995, WorldCorp and MHS owned approximately 59.3% and 16.6%, respectively, of the outstanding common stock of World Airways. The remaining shares were publicly traded. In the third quarter of 1996, the Company announced its intention to purchase up to one million shares of its publicly-traded common stock pursuant to open market transactions. During the fourth quarter of 1996, the Company purchased 718,000 shares of its common stock for an aggregate cost of $7.4 million. As a result of these purchases, WorldCorp and MHS owned approximately 61.3% and 17.6%, respectively, of the outstanding common stock of World Airways at December 31, 1996. The remaining shares were publicly traded. In the first quarter of 1997, the Company purchased an additional 52,000 shares of its common stock for an aggregate cost of $0.5 million. On August 26, 1997, the Company completed a private offering, issuing $50.0 million of 8% convertible senior subordinated debentures (the "Debentures") due in 2004 (the "Offering")(see Note 11). In connection with the Offering, and pursuant to an agreement entered into on August 20, 1997, the Company purchased 3,227,000 shares of its common stock from WorldCorp on September 18, 1997 for approximately $24.7 million. Therefore, at December 31, 1997, WorldCorp and MHS owned approximately 46.3% and 24.9% of World Airways, respectively. The remaining shares were publicly traded. In accordance with a shareholders agreement, dated as of February 3, 1994, as amended, among WorldCorp, MHS and the Company, if WorldCorp were to dispose of its holdings in the Company with the result that WorldCorp's ownership interest in the Company falls below 51% of the outstanding shares of common stock, then MHS may either sell its shares to a third party or require WorldCorp to sell a pro rata number of shares held by MHS to the party purchasing WorldCorp's shares. Therefore, as a result of the purchase of 3,227,000 shares of common stock by World Airways from WorldCorp, MHS had the right to sell, and accordingly sold, 773,000 shares of its World Airways common stock to the Company for approximately $5.9 million, effective January 23, 1998. Therefore, effective January 23, 1998, WorldCorp and MHS own approximately 51.2% and 16.8%, respectively, of World Airways. FINANCIAL STATEMENT RECLASSIFICATIONS Certain items in prior year financial statements included herein have been reclassified to conform to the 1997 financial statement presentation. 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. CASH EQUIVALENTS For purposes of the Statements of Cash Flows, the Company considers all highly liquid investments purchased with an original maturity of ninety days or less to be cash equivalents. REVENUE RECOGNITION Contract flight operations revenues are recognized as the services are provided. ADMINISTRATIVE AND INTEREST EXPENSES Administrative expenses incurred by WorldCorp are allocated as described in Note 4. This allocation is intended to reflect the costs that would have been incurred had World Airways been operated on a stand-alone basis. Interest expense is charged based upon the outstanding balance of long-term payables to WorldCorp, if any. In the opinion of WorldCorp management, such allocations are made on a reasonable basis; however, the allocations are not necessarily indicative of the costs which may be incurred in subsequent periods. The amounts due to/from affiliates resulting from allocations of expenses are short-term in nature and are non-interest bearing. INCOME TAXES The Company computes income taxes in accordance with Financial Accounting Standards Board Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes, ("FAS #109"). Under the asset and liability method of FAS #109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Under FAS #109, the effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. The Company is not included in WorldCorp's consolidated income tax returns. EARNINGS (LOSS) PER COMMON SHARE Statement of Financial Accounting Standards No. 128, Earnings Per Share, ("FAS #128") became effective for the year ended December 31, 1997, and required restatement of previously reported earnings per share data. FAS #128 provides for the calculation of basic and diluted earnings per share. Basic earnings (loss) per common shares is computed by dividing net earnings (loss) by the weighted average number of common shares outstanding during the period. Diluted earnings (loss) per common share also includes common equivalent shares outstanding during the period. The Company's common equivalent shares consist of stock options, convertible securities and warrants. EQUIPMENT AND PROPERTY Equipment and property are stated at cost or, if acquired under capital leases, at the present value of the minimum lease payments. Provisions for depreciation and amortization of equipment and property are computed over estimated useful lives or the term of the lease, if shorter, for capital leases, by the straight-line method, with estimated salvage values of 0 - - 15%. Estimated useful lives of equipment and property are as follows: DC10 and MD-11 flight equipment 15-16 years Other equipment and property 5-10 years Deferred gains realized in connection with sale-leasebacks of aircraft and equipment are amortized over the periods of the respective leases. AIRCRAFT MAINTENANCE Major airframe maintenance and engine overhauls are expensed using the accrual method of accounting. The accrual method provides for estimating the cost of the initial overhaul and accruing the cost, based on an hourly rate, to the overhaul. At that time, the actual cost of overhaul is charged to the accrual, with any deficiency or excess charged or credited to expense. The cost of the next overhaul is then estimated, based on the new rate, and accrued to that overhaul, at which time the process is repeated. Certain of the Company's leases require the Company to make monthly payments to the lessor for estimated maintenance costs to be incurred. Modifications performed in response to Airworthiness Directives issued by the Federal Aviation Administration are capitalized at cost. Routine maintenance and general repairs are expensed as incurred. ASSETS HELD FOR SALE Assets held for sale are recorded at the lower of cost or estimated net realizable value. Net realizable value is based on the estimated fair value (measured by using a current selling price for similar assets) less estimated selling costs. IMPAIRMENT OF LONG-LIVED ASSETS The Company reviews its long-lived assets for impairment whenever events or circumstances indicate that the carrying amount of an asset may not be recoverable. To the extent that the future undiscounted net cash flows expected to be generated from an asset are less than the carrying amount of the asset, an impairment loss will be recognized based on the difference between the asset's carrying amount and its estimated fair market value. OTHER ASSETS AND DEFERRED CHARGES Contract enhancements, pre-operating costs and debt issuance costs are amortized on a straight line basis over certain estimated periods (see Notes 5 and 8). POSTRETIREMENT BENEFITS OTHER THAN PENSIONS World Airways' cockpit crewmembers and eligible dependents are covered under postretirement health care benefits to age 65. The Company accounts for the benefit costs in accordance with Statement of Financial Accounting Standards No. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions" ("FAS #106"). The Company funds the benefit costs on a pay-as-you-go (cash) basis. ACCOUNTING FOR STOCK-BASED COMPENSATION Prior to January 1, 1996, the Company accounted for its stock option plan in accordance with the provisions of Accounting Principles Board ("APB") Opinion No. 25, Accounting for Stock Issued to Employees, and related interpretations. As such, compensation expense would be recorded on the date of grant only if the current market price of the underlying stock exceeded the exercise price. On January 1, 1996, the Company adopted SFAS No. 123, Accounting for Stock-Based Compensation, which permits entities to recognize as expense over the vesting period the fair value of all stock-based awards on the date of grant. Alternatively, SFAS No. 123 also allows entities to continue to apply the provisions of APB Opinion No. 25 and provide pro forma net income and pro forma earnings per share disclosures for employee stock option grants made in 1995 and future years as if the fair-value-based method defined in SFAS No. 123 had been applied. The Company has elected to continue to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure provisions of SFAS No. 123 (see Note 12). In addition, in accordance with SFAS 123, the Company applies fair value as the measurement basis for transactions in which equity instruments are issued to nonemployees (as defined) (see Note 11). 2. OPERATING ENVIRONMENT Cash and cash equivalents at December 31, 1997 and 1996 were $25.9 million and $7.0 million, respectively, and the Company's working capital deficit was $1.8 million and $28.2 million at December 31, 1997 and December 31, 1996, respectively. Subsequent to year-end, the Company purchased 773,000 shares of its common stock from MHS in accordance with the shareholders agreement for approximately $5.9 milion (see Note 1), and loaned WorldCorp $1.75 million (see Note 4). At December 31, 1997, the Company had total long-term indebtedness of approximately $75.1 million and notes payable and current maturities of long-term obligations of $13.9 million. The Company also has significant future long-term obligations under aircraft lease obligations relating to its aircraft (see Note 11 - "Long Term Obligations"). The Company anticipates that its total capital expenditures in 1998 will approximate $4.1 million. The Company's flight attendants filed four grievances against the Company challenging the use of foreign flight attendant crews on the Company's flights, the outcome of which may increase the Company's costs during 1998. The Company has historically financed its working capital and capital expenditure requirements out of cash flow from operating activities, public and private sales of its common stock, secured borrowings, and other financings from banks and other lenders. The degree to which the Company is leveraged could have important consequences, including the following: (i) the Company's ability to obtain additional financing in the future for working capital, capital expenditures, acquisitions or other purposes may be limited; (ii) the Company's degree of leverage and related debt service obligations, as well as its obligations under operating leases for aircraft, may make it more vulnerable than some of its competitors in a prolonged economic downturn; and (iii) the Company's financial position may restrict its ability to pursue new business opportunities and limit its flexibility in responding to changing business conditions. Subsequent to year-end, the Company renewed and amended a credit facility of up to $25 million, to be collateralized by certain receivables and spare parts. The proceeds from this facility will be used to increase working capital and for general corporate purposes. While the Company believes that the lease rates on its MD-11 aircraft are favorable relative to lease rates of other MD-11 operators, the Company's MD-11 aircraft have higher lease costs (although lower operating costs) than its DC10-30 aircraft. Therefore, achieving high average daily utilization of its aircraft (particularly its MD-11 aircraft) at attractive yields are important factors to the Company's financial results. In addition to fixed aircraft costs, a portion of the Company's labor costs are fixed due to monthly minimum guarantees to cockpit crewmembers and flight attendants. Factors that affect the Company's ability to achieve high utilization in its ACMI business include the compatibility of the Company's aircraft with customer needs and the Company's ability to react on short notice to customer requirements (which can be unpredictable due to changes in traffic rights, aircraft delivery schedules and aircraft maintenance requirements). Other factors that affect the ACMI business include particular domestic and foreign regulatory requirements, as well as a trend toward aviation deregulation which is increasing the number of alliances and code share arrangements. Although the Company's strategy is to enter into long-term contracts with its customers, the terms of the Company's existing customer contracts are substantially shorter than the terms of the Company's lease obligations with respect to its aircraft. The Company's financial results could be materially adversely affected even by relatively brief periods of low aircraft utilization and yields. Consistent with prior years, the Company has substantial uncontracted capacity in the third and fourth quarters of 1998 and beyond. In addition, as further described below, the Company's major customer, Malaysian Airlines, is subject to the financial difficulties associated with the adverse economic conditions in Malaysia and the Asia Pacific Region (see Notes 5 and 15). Although there can be no assurance that it will be able to secure additional business to reduce this excess capacity, the Company is actively seeking customers for 1998 and beyond, and has historically been successful in obtaining new customers. As described in Note 15, a substantial portion of the Company's business in 1997 was with two customers: Malaysian Airlines and Philippine Airlines. The contract with Philippine Airlines expired in February, 1998. In 1997, the Company received approximately $11.2 million in revenue associated with minimum guarantee payments from Malaysian Airlines and $3.0 million in contract modification payments from Philippine Airlines, not associated with aircraft flying and related costs. As of December 31, 1997, Malaysian Airlines and Philippine Airlines owed the Company $2.6 million and $1.0 million, respectively, primarily related to reimbursable costs incurred by the Company, which is included in due from affiliate and trade receivables, respectively, in the accompanying balance sheet. A substantial portion of the Company's contracted business in 1998 is with Malaysian Airlines and Garuda Indonesia. Although the Company's customers bear the financial risk of filling the Company's aircraft with passengers or cargo, the Company can be affected adversely if its customers are unable to operate the Company's aircraft profitably, or if one or more of the Company's customers experience a material adverse change in their market demand, financial condition or results of operations. Under these circumstances, the Company can be adversely affected by receiving delayed or partial payments or by receiving customer demands for rate and utilization reductions, flight cancellations, and/or early termination of their agreements. In 1997, the affects of the adverse economic conditions in Malaysia and Indonesia and other countries in the Asia Pacific Region included a national liquidity crisis, significant depreciation in the value of the ringgit and rupiah, higher domestic interest rates, reduced opportunity for refinancing or refunding of maturing debts, and a general reduction in spending throughout the region. These conditions and similar conditions in other countries in the Asia Pacific Region could have a material adverse effect on the operations of Malaysian Airlines and Garuda Indonesia, and therefore on the operations of the Company. However, management also believes these conditions could provide new opportunities to wet lease aircraft to airlines customers, particularly those who have deferred or canceled new aircraft orders but are still in need of providing additional airlift. The Company believes that the combination of its existing contracts and additional business which it expects to obtain for 1998, along with its existing cash and financing arrangements, will be sufficient to allow the Company to meet its cash requirements related to the operating and capital requirements for 1998. 3. DISCONTINUED OPERATIONS The Company commenced its scheduled service operations between Tel Aviv and New York in July 1995 and commenced its scheduled service operations between the U.S. and South Africa in June 1996. In addition, in May 1996 the Company commenced its scheduled charter operations between the United States and Germany, Switzerland, Ireland, and the United Kingdom. However, the Company was unable to operate these scheduled service operations profitably. Therefore, in July 1996, the Company announced its decision to exit its scheduled service operations by October 1996 and focus its operations on its core business: operating aircraft under contracts with international carriers, the U.S. Government, and international tour operators. Consistent with this decision, World Airways ceased all scheduled operations as of October 27, 1996. As a result, the Company's scheduled service operations were reflected as discontinued operations as of June 30, 1996, and prior period results were restated to reflect scheduled service operations as discontinued operations. Loss from discontinued operations (net of income tax effect) approximated $11.7 million for the year ended December 31, 1996. In addition, an estimated loss on disposal of $21.0 million (net of income tax effect), which was recorded as of June 30, 1996, included the following: $13.6 million for estimated operating losses during the phase-out period; a $2.6 million estimated loss to be incurred in connection with sub-leasing DC-10 aircraft which will not be utilized in the Company's operations subsequent to the phase-out of scheduled service operations; a $2.3 million writeoff of related leasehold improvements; and $2.0 million for passenger reprotection expenses. The Company recognized an additional $0.5 million of expense in the fourth quarter of 1997 and believes that substantially all of the costs relating to the disposal have been incurred as of December 31, 1997. The Company is subject to certain claims arising as a result of the discontinuance of its scheduled service operations (see Note 17), but the Company believes it has substantial defenses to these actions. 4. TRANSACTIONS WITH PARENT COMPANY ADMINISTRATIVE COST ALLOCATION Prior to December 31, 1994, WorldCorp and its operating subsidiaries utilized a single corporate staff for administrative support services thus permitting the Company to draw upon the expertise of WorldCorp management personnel as needed. Effective January 1, 1995, a majority of the WorldCorp employees providing services to World Airways became employees of the Company. As a result, the net allocation of corporate administrative costs to the Company was minimal beginning in 1995. CONTROL BY WORLDCORP Pursuant to the Agreement between World Airways and WorldCorp (see Note 1), the Company purchased 3,227,000 shares of its common stock held by WorldCorp on September 18, 1997. As a result, as of December 31, 1997, WorldCorp owned approximately 46.3% of World Airways. Effective January 23, 1998, the Company purchased 773,000 shares of its common stock from MHS in accordance with the amended shareholders agreement (see Note 1), thereby increasing WorldCorp's ownership percentage in the Company to 51.2%. WorldCorp's operations consist primarily of its equity method investments in the Company and InteliData Technologies Corporation ("InteliData"). WorldCorp is highly leveraged, and therefore requires substantial funds to cover debt service each year. Subsequent to year-end, the Company loaned WorldCorp $1.75 million, which was used by WorldCorp to pay debt obligations. The loan is collateralized by 1.0 million of World Airways shares owned by WorldCorp and bears interest at prime plus 2.5%. As a holding company, all of WorldCorp's funds are generated through its subsidiaries, neither of which is expected to pay dividends in the foreseeable future. As a result of WorldCorp's cash requirements, it may be required to sell additional shares of common stock, and such sales, or the threat of such sales, could have a material adverse effect on the market price of the common stock. Except as limited by contractual arrangements with MHS, WorldCorp also is in a position to control the outcome of many issues submitted to World Airways' stockholders, including the election of all of World Airways' Board of Directors, adoption of amendments to World Airways' Certificate of Incorporation, and approval of mergers. In 1996, World Airways announced its intention to purchase up to one million shares of its publicly-traded common stock pursuant to open market transactions. As of December 31, 1996, World Airways had purchased 718,000 shares of its common stock for an aggregate cost of $7.4 million. In January 1997, the Company purchased an additional 52,000 shares of its common stock for an aggregate cost of $0.5 million. The Company does not intend to purchase any additional shares at this time. 5. TRANSACTIONS WITH MHS AND MALAYSIAN AIRLINES On October 30, 1993, WorldCorp, World Airways, and MHS entered into a Stock Purchase Agreement (the "Stock Purchase Agreement") pursuant to which MHS, subject to satisfactory completion of its due diligence investigations, agreed to purchase 24.9% of World Airways' common stock for $27.4 million in cash. Under this Agreement, World Airways would receive upon closing $12.4 million to fund its working capital requirements. The remaining $15.0 million would be paid to WorldCorp to add to its cash reserves. WorldCorp received $2.7 million prior to December 31, 1993 as an advance on the sales price. At the time of the signing of the Stock Purchase Agreement, World Airways was a wholly-owned subsidiary of WorldCorp. On February 28, 1994, WorldCorp, World Airways, and MHS concluded the transaction according to the terms described above. Under the agreement, if at any time after October 30, 1996 World Airways registers additional common stock under the Securities Act of 1933, MHS has the right to demand the registration of its shares of the Company's common stock. Under a shareholders agreement, MHS has the right to nominate two members to the Company's board of directors and WorldCorp has agreed to vote its shares of common stock to elect such nominees. Also, if without the prior written consent of MHS: (1) World Airways sells all or substantially all of its business; or (2) World Airways fundamentally changes its line of business, then MHS has the option to require WorldCorp to purchase all or part of MHS's shares at fair market value. Fair market value is defined to be not less than the aggregate of the costs borne by MHS in acquiring and holding its World Airways shares. Management has indicated that it does not have any current intent to take any such actions without the prior consent of MHS or the directors nominated by MHS. The shareholders agreement also provides that if WorldCorp's ownership interest in the Company falls below 51% of the outstanding shares of common stock, then MHS may either sell its shares to a third party or require WorldCorp to sell a pro rata number of shares held by MHS to the party purchasing WorldCorp's shares. MHS also has a right of first refusal to purchase shares of common stock issued by the Company or sold by WorldCorp and to purchase additional shares of common stock to maintain its ownership percentage in the Company. In connection with the Company's Offering on August 26, 1997 (see Note 11), the Company purchased 3,227,000 shares of its common stock from WorldCorp on September 18, 1997 for approximately $24.7 million. Therefore, at December 31, 1997, MHS owned approximately 24.9% of the Company's common stock. In accordance with the shareholders agreement, when the Company purchased the 3,227,000 shares of common stock from WorldCorp in September 1997 (see Note 1), MHS had the right to sell, and accordingly sold, 773,000 shares of its World Airways common stock to the Company for approximately $5.9 million, effective January 23, 1998, thereby reducing MHS's ownership interest in the Company to 16.8%. During 1994, MHS acquired 32% of Malaysian Airlines, the flag carrier of Malaysia. Due mainly to the issuance of additional shares of common stock by Malaysian Airlines during 1996, MHS owns 28% of Malaysian Airlines at December 31, 1997. World Airways has provided service to Malaysian Airlines since 1981, providing aircraft for integration into Malaysian Airlines' scheduled passenger, cargo and charter operations as well as transporting passengers for the annual Hadj pilgrimage. Malaysian Airlines is one of the Company's largest customers (see Note 15). Effective December 31, 1994, WorldCorp entered into a 6% note payable to MHS in the amount of $8.5 million, due December 31, 1995, in exchange for 5% of World Airways' common stock held by MHS and the execution of certain multi-year contracts between World Airways and Malaysian Airlines. The shares were pledged as security for the note payable. The note was repaid in accordance with the agreement. Of the $8.5 million consideration paid by WorldCorp to MHS, $3.0 million was attributable to the contract enhancements discussed above. This amount is included in other assets and deferred charges and in contributed capital in the accompanying balance sheets, and is being amortized over the terms of the related Malaysian Airlines contracts, approximately two to five years. As of December 31, 1997, the unamortized balance of the deferred contract cost is $1.1 million, net of $1.9 million of accumulated amortization (see Note 8). In late 1994, the Company entered into a series of multi-year contracts, with expiration dates ranging from 1997 to 2000, to provide aircraft to Malaysian Airlines. The Company also entered into a 32-month agreement for year-round operations (including the Hadj) with Malaysian Airlines whereby the Company is providing two passenger aircraft with cockpit crews, maintenance and insurance to Malaysian Airlines' newly-formed charter division through May 1999. However, in 1997, the Company agreed to a five month reduction in the utilization of one aircraft during 1997 although that aircraft was redeployed. Malaysian Airlines has not informed the Company of any reductions for 1998. The Company provided three aircraft for the 1997, 1996 and 1995 Hadj operations. MAS received notice from the Malaysian Hadj Board that MAS would not participate in the 1998 Hadj pilgrimage. As a result, MAS entered into an agreement on behalf of the Company for the Company to provide two DC-10 aircraft to fly in the 1998 Indian Hadj. The Company has a long-term contract to operate three MD-11 cargo aircraft for Malaysian Airlines. However, beginning in July 1996, and as mutually agreed by the parties, World Airways redeployed two cargo aircraft, which had been operating under these contracts, into another contract which ended in February 1998. The Company and Malaysian Airlines are currently discussing the redeployment of these aircraft back into Malaysian Airlines' operations during 1998 in order to meet the contracts' original obligations. The Company can provide no assurances, however, that the Company will, in fact, be able to do so (see Note 15). As of December 31, 1997 and 1996, the Company had $2.2 million and $5.5 million, respectively, included in due from affiliate, net of allowances, in the accompanying balance sheets. Included in these balances are certain reimbursable operating costs of $1.9 million and $0.6 million due from Malaysian Airlines at December 31, 1997 and 1996, respectively, incurred by the Company pursuant to the currently operated contracts. In addition, included in the amount shown as due to affiliate in the accompanying balance sheets, are $2.2 million and $1.4 million of aircraft rent owed to Malaysian Airlines at December 31, 1997 and 1996, respectively. During 1995, the Company entered into agreements with Malaysian Airlines to lease two DC10-30 aircraft. The aircraft were delivered in June and December 1995 and had original lease terms of 26 and 36 months, respectively. The leases on the two aircraft expire in August 1999 and December 1998. In March 1996, the Company leased two additional DC-10-30 aircraft from Malaysian Airlines. These additional aircraft were not expected to be utilized after the discontinuance of the Company's scheduled service operations in October 1996 (see Note 3). Therefore, effective December 31, 1996, the parties mutually agreed to terminate the lease agreement for the additional two aircraft. In March 1997, the Company entered into an agreement with Malaysian Airlines to lease an incremental DC10-30 aircraft on a short-term basis to support its peak flying season. The aircraft was returned at the end of the Hadj program. Rent expense and maintenance reserve payments related to these aircraft leased from Malaysian Airlines amounted to $6.6 million, $12.6 million and $1.6 million in 1997, 1996 and 1995, respectively. 6. SUPPLEMENTAL INFORMATION -- STATEMENTS OF CASH FLOWS Additional information pertaining to certain cash payments and noncash investing and financing activities is as follows (in thousands): For the years ended December 31, ----------------------------------------- 1997 1996 1995 ---------- ---------- ---------- Cash paid for: Interest $ 3,641 $ 3,556 $ 3,377 Income taxes 462 412 336 In 1997, the Company entered into a capital lease, valued at $0.8 million, with a lessor to lease an auxiliary power unit over a 32 month term beginning in July 1997. The Company made principal payments of $0.1 million in 1997. In January 1996, the Company agreed to purchase an additional engine and received a commitment from the engine manufacturer to finance 85% of its purchase price over a seven-year term (see Note 11). In June 1997, the Company took delivery of the engine and signed a note for $6.3 million, of which $0.3 million was repaid in 1997. The Company purchased a spare engine which was delivered in March 1996. The engine cost approximately $8.0 million. The Company entered into an agreement with the engine's manufacturer to finance 80% of the purchase price over a seven-year term (see Note 11). The Company made payments of $0.7 million, $0.4 million and $1.2 million towards this purchase during 1997, 1996 and 1995, respectively. In March 1996, the Company entered into an agreement with McDonnell Douglas to lease two MD-11ER aircraft (see Note 11). The Company entered into a simultaneous agreement with McDonnell Douglas to finance MD-11 spare parts. The Company can borrow a total of $9.0 million of which $3.0 million became available with the delivery of each aircraft and an additional $3.0 million became available in December 1996. Borrowings under the agreement were $1.5 million and $6.4 million during 1997 and 1996, respectively, and payments of $1.1 million and $0.5 million were made in these years. 7. SHORT-TERM INVESTMENTS At December 31, 1996, short-term investments consist of cash pledged as collateral for letters of credit with original maturities in excess of ninety days, and expiration dates within one year. There were no outstanding letters of credit at December 31, 1997. 8. OTHER ASSETS Prepaid expenses and other current assets consist of the following (in thousands): December 31, -------------------------- 1997 1996 ---------- ---------- Prepaid rent $ 3,331 $ 2,463 Prepaid insurance 4,491 4,866 Other 173 449 ----- ----- Total $ 7,995 $ 7,778 ===== ===== Other assets and deferred charges include net deferred contract costs of $1.1 million and $1.5 million as of December 31, 1997 and 1996, respectively (see Note 5), net MD-11 aircraft integration costs of $0.2 million and $1.1 million as of December 31, 1997 and 1996, respectively, and as of December 31, 1997, debt issuance costs of $1.5 million related to the issuance of the $50.0 million of 8% convertible senior subordinated debentures on August 26, 1997. Aircraft integration costs consist of pre-operating costs incurred in connection with integrating the MD-11 aircraft into the Company's fleet as of December 31, 1997 (see Note 11). These costs are being amortized on a straight-line basis over a five-year period. 9. ASSETS HELD FOR SALE Assets held for sale consist primarily of DC10 rotables with a net book value of $3.2 million and $3.9 million as of December 31, 1997 and 1996, respectively. The Company has consigned these parts with a third party to be sold over a reasonable period of time with the objective of maximizing the proceeds from the sales. As a result of the discontinuance of the Company's scheduled service operations in 1996 (see Note 3), and the termination of two DC10 lease agreements in December 1996 (see Note 5), the Company consigned additional DC10 rotables with the third party during 1997. Accordingly, the net book values of these parts of $0.6 million and $1.7 million were reclassified from flight and other equipment to assets held for sale in the accompanying balance sheets at December 31, 1997 and 1996, respectively. The Company wrote-down assets held for sale by $0.5 million and $0.4 million during the fourth quarters of 1997 and 1996, respectively, to reflect the estimated fair value of the parts less estimated selling costs, which is included in other expense in the accompanying statements of operations. 10. NOTES PAYABLE In 1993, the Company entered into an $8.0 million revolving line of credit borrowing arrangement which is collateralized by certain receivables which were sold to the bank with recourse. Borrowing availability under the line is based on the amount of eligible receivables. This borrowing arrangement was amended effective June 30, 1996 (see Note 11). At December 31, 1996, World Airways had minimal unused borrowing capacity and borrowings under the line of credit were $6.8 million. Upon completion of the Offering (see Notes 1 and 11), the Company repaid the outstanding balance on the line. Therefore, at December 31, 1997, there was no outstanding balance or borrowing capacity on the revolving line of credit. Subsequent to year end, the Company amended its Credit Agreement with BNY Financial Corporation ("BNY"). The amended line has a borrowing capacity of up to $25.0 million, subject to borrowing base amounts related to receivables and spare parts inventory, as defined. The amended arrangement contains certain dividend restrictions and certain covenants related to the Company's financial condition and operating results, including quarterly net worth and net income (loss) requirements and debt coverage requirements. Borrowings under this amended Credit Agreement are collateralized by certain receivables, inventory, and equipment. A $4.0 million note bearing interest at 4.0% and a $4.6 million note bearing interest at 3.8% are included in notes payable at December 31, 1997 and 1996, respectively. The $4.6 million note was fully paid during 1997. The $4.0 million note requires monthly principal and interest payments, and is required to be paid in full in 1998. 11. LONG-TERM OBLIGATIONS LONG-TERM DEBT The Company's long-term obligations at December 31 are as follows (in thousands):
1997 1996 ---------- ---------- Note payable due 1999 -- with principal and interest at 7.25% payable monthly, collateralized by one Pratt & Whitney PW4462 engine. $ 3,866 $ 4,393 Note payable due 2003 -- with principal and interest at 9.98% payable monthly, collateralized by one Pratt and Whitney PW4462 engine. 5,361 6,018 Note payable due 2004 -- with interest at 8.18% payable monthly, collateralized by one Pratt & Whitney PW4462 engine 5,920 -- Spare parts loan due 1998 -- with principal and interest at 8.5% payable monthly, collateralized by certain MD-11 spare parts. 2,842 3,229 Spare parts loan due 2003 -- with principal and interest at 8.5% payable monthly, collateralized by certain MD-11 spare parts. 2,248 2,581 Spare parts loan due 2003 -- with principal and interest at 10% payable monthly, collateralized by certain MD-11 spare parts. 6,276 5,929 Aircraft spare parts security agreement payable to bank due 1999, net of discount of $0.2 million -- with interest at the greater of the federal funds rate plus 2.5% or the prime rate plus 2% (10.25% at December 31, 1996), collateralized by certain rotables. -- 7,595 Employee Saving and Stock Ownership Plan guaranteed bank loan (Note 12) 227 805 Convertible senior subordinated debentures, due 2004 -- with interest at 8% payable semi-annually 50,000 -- Capital lease obligations 7,409 7,683 Deferred aircraft rent 915 1,142 Less: debt discount (137) (223) ------- ------- Total 84,927 39,152 Less: current maturities 9,856 9,046 ------ ------ Total long-term obligations, net $ 75,071 $ 30,106 ====== ======
The Company believes that the carrying values of the amounts outstanding under the above debt agreements approximate fair value. Subsequent to December 31, 1997, the Company amended its Credit Agreement with BNY, which included the aircraft security agreement and the $8.0 million revolving line of credit borrowing (see Note 10), to provide for up to a $25.0 million revolving line of credit borrowing (see Note 10). In 1996, in connection with a previous amendment, the Company granted warrants to BNY to purchase up to 50,000 shares of authorized but unissued common stock. The warrants were granted at an exercise price of $8.00 per share which was equal to the market price of the Company's stock at the date of grant. All warrants were vested and became fully exercisable at the date of grant and expire on December 31, 1999. The per share weighted-average fair value of warrants granted was $3.615 on the date of grant using the Black Scholes option- pricing model with the following weighted-average assumptions: expected dividend yield of 0.0%, risk free interest rate of 6.0%, expected life of 3 years and expected volatility of 61.0%. The Company recorded $0.2 million related to the warrants which will be amortized into interest expense over the terms of the related debt. On August 26, 1997, the Company completed a private offering, issuing $50.0 million of 8% convertible senior subordinated debentures (the "Debentures") due in 2004 (the "Offering"). The Debentures were subsequently registered with the Securities and Exchange Commission. The Debentures are unsecured obligations, convertible into shares of the Company's common stock at $8.90 per share, subject to adjustment in certain events, and subordinated to all present and future senior indebtedness of the Company. In the event of a change in control of the Company, as defined, the holders of the Debentures could require the Company to repurchase the outstanding Debentures. The Debentures are not redeemable by the Company prior to August 26, 2000. The Company used the net proceeds of the Offering to purchase approximately 4.0 million shares of its common stock (see Notes 1, 4 and 5), repay certain indebtedness, increase working capital and for general corporate purposes. After completion of the Offering, the Company repaid approximately $3.8 million, which was outstanding on the aircraft spare parts security agreement. In September 1995, the Company entered into an agreement with a lessor to purchase a spare engine, previously under lease, for $5.5 million. The Company paid $0.5 million upon closing and signed a note for the $5.0 million balance. The note bears interest at a rate of 7.25% and is payable over a 40-month period at $69,000 a month, with the balance of $3.3 million due on January 29, 1999. The Company purchased an additional spare engine, which was delivered in March 1996, at a cost of approximately $8.0 million. The Company entered into an agreement with the engine's manufacturer to finance 80% of the purchase price over a seven-year term at an interest rate of 9.98%. The Company made payments of $1.2 million, $0.4 million and $0.7 million towards this purchase in September 1995, January 1996 and during 1997, respectively. In January 1996, the Company agreed to purchase an additional engine for approximately $7.2 million and received a commitment from the engine manufacturer to finance 85% of its purchase price over a seven-year term with an interest rate to be fixed at the time of delivery. In June 1997, the Company took delivery of the engine and signed a note for $6.3 million. The note bears interest at a rate of 8.18% and is payable over an 84-month period at approximately $48,000 per month, with the balance of $2.2 million due on June 18, 2004. During 1993, the Company negotiated with several of its lessors to defer approximately $14.7 million of lease payments on eight aircraft. In addition, during 1995 and 1994 the Company deferred approximately $0.7 million of rent, pursuant to the 1993 agreement. Of these amounts, the Company repaid approximately $14.5 million through 1997. The following table shows the aggregate annual amount of scheduled principal maturities (in thousands) of debt outstanding at December 31, 1997, excluding capital lease obligations. 1998 $ 6,625 1999 6,339 2000 3,161 2001 3,049 2002 2,960 Thereafter 55,384 ------ Total $ 77,518 ====== CAPITAL LEASES The present value of the obligations under capital leases at December 31, 1997 is calculated using rates ranging from 10.0% to 10.5%. The following are scheduled minimum capital lease payments (in thousands) due in the succeeding five years and thereafter, together with the present value of such obligations: 1998 $ 3,692 1999 1,656 2000 2,998 2001 -- 2002 -- Thereafter -- ------ Total minimum lease payments 8,346 Less: imputed interest 937 ------ Present value of obligations under capital lease $ 7,409 ====== Property under capital leases consists of equipment leases and is amortized over the lease terms or expected useful lives of the assets. Accumulated amortization under capital leases was $4.8 million and $4.2 million at December 31, 1997 and 1996, respectively. Amortization expense of property under capital leases totaled approximately $0.6 million for each of the years ended December 31, 1997 and 1996, and $0.8 million for the year ended December 31, 1995. OPERATING LEASES In October 1992 and January 1993, World Airways signed a series of agreements with International Lease Finance Corporation ("ILFC"), McDonnell Douglas Corporation, GATX Capital Corporation, and United Technologies Corporation's Pratt & Whitney Group ("Pratt and Whitney") to lease seven new McDonnell Douglas MD-11 aircraft and associated engines under initial lease terms of two to five years. The Company returned one aircraft in August 1997. The remaining six aircraft leases contain annual renewal options in years six through fifteen of the lease term. If these renewal options are not exercised, the Company is required to pay a substantial penalty to the lessor. Under the terms of the lease agreements, World Airways may be required to pay additional rent in excess of the fixed monthly amounts depending on block hours flown. In February 1992, World Airways signed 12-year operating leases for two McDonnell Douglas DC10-30 passenger aircraft. In July 1993, World Airways returned these aircraft to their lessor. Certain matters related to the termination of these leases were resolved in 1995 and resulted in a gain to the Company of approximately $0.8 million. This gain is included in other income in 1995. The Company's MD-11 leases contain options to purchase the aircraft at various times throughout the lease terms. Long-term deposits consist primarily of deposits on the MD-11 leases. As part of the lease agreements, World Airways was assigned purchase options for four additional MD-11 aircraft. In 1992, World Airways made non-refundable deposits to McDonnell Douglas toward the option aircraft. In March 1996, the Company entered into an agreement with McDonnell Douglas to lease two MD-11ER aircraft. Under this agreement, the Company is leasing each aircraft for a term of 24 years with an option to return the aircraft after a seven year period, subject to fixed termination fees of $2.8 million per aircraft. The non-refundable deposits of $1.2 million previously paid to McDonnell Douglas towards options on four MD-11 aircraft were applied to the deposits required on the MD-11ER aircraft. The Company entered into a simultaneous agreement with McDonnell Douglas to finance MD-11 spare parts. The Company can borrow a total of $9.0 million of which $3.0 million became available with the delivery of each aircraft and an additional $3.0 million became available in December 1996. Net borrowings under the agreement were $6.3 million and $5.9 million at December 31, 1997 and 1996, respectively. McDonnell Douglas retains a purchase money lien in the purchased parts. In connection with this lease agreement, the Company agreed to assume an existing lease of two additional MD-11 freighter aircraft for 20 years, beginning in 1999, in the event the existing lessee terminates its lease with McDonnell Douglas at that time. Effective August 1997, the Company entered into an agreement with one of its lessors to return a passenger MD-11 aircraft. The aircraft was returned in September 1997. In conjunction with the aircraft return, the Company forfeited security deposits of $0.2 million and paid an additional $0.2 million to the lessor in 1998. In October 1997, one of the Company's MD-11 aircraft was damaged upon its landing at Montevideo, Uruguay. The aircraft was out of service until January 1998 while certain repairs were made. The Company expects insurance to cover the majority of repair and certain related costs. Expected insurance proceeds of $3.7 million are included in other receivables in the accompanying balance sheet at December 31, 1997. In 1995, World Airways entered into three DC10-30 aircraft leases with lease terms, as amended, expiring in September 1998, December 1998 and August 1999. In addition, another DC-10 aircraft lease expires in January 2003. As of December 31, 1997, the Company's fleet consisted of three passenger MD-11 aircraft, one freighter MD-11 aircraft, two convertible MD-11 aircraft, two MD-11ER aircraft, three passenger DC10-30 aircraft, and one DC10-30 convertible aircraft. The Company extended the lease terms on two spare engines during 1996. One lease, originally expiring on December 31, 1995, was extended until February 1998. This lease was classified as a capital lease at December 31, 1995, but became an operating lease under the new agreement. The other engine was extended three years from its original April 20, 1996 termination date. During 1997, the Company reached a settlement with its engine manufacturer for reimbursements related to disputed spare engine lease charges. As a result of this settlement, during 1997, the Company reversed aircraft costs of $0.9 million originally recorded during 1996. In addition, the Company received the use, at no charge, of one spare engine through September 30, 1998. During 1997, the Company's lease for its headquarters space expired, and the Company entered into a new agreement with the lessor to lease the space until 2003. As part of the lease agreement, the lessor agreed to finance certain leasehold improvements provided that the Company meets specific net worth requirements. As a result of the Company's purchase of 3,227,000 shares on September 18, 1997 (see Note 1), the Company was not in compliance with this covenant. The Company and the lessor are currently discussing possible amendments to the agreement. Rental expense for continuing operations, primarily relating to aircraft leases, totaled approximately $87.7 million, $84.0 million, and $66.4 million for the years ended December 31, 1997, 1996 and 1995, respectively. The following is a schedule of future annual minimum rental payments, principally aircraft rentals (excluding variable portions), required under operating leases that have initial or remaining noncancellable lease terms in excess of one year as of December 31, 1997 (in thousands): 1998 $ 79,500 1999 72,772 2000 72,831 2001 72,989 2002 73,148 Thereafter 612,817 ------- Total $ 984,057 ======= These future annual minimum rental payments include all option years. Under the terms of certain of the MD-11 leases, if the options are not exercised, the Company must pay a substantial penalty to the lessor, consisting of either a fixed penalty or a penalty based on the number of block hours flown since delivery of the aircraft. The Company intends to exercise the options under these leases. 12. EMPLOYEE BENEFIT PLANS The World Airways' Crewmembers Target Benefit Plan is a defined contribution plan covering flight engineers and pilots with contributions based upon defined wages. It is a tax-qualified retirement plan under Section 401(a) of the Internal Revenue Code of 1986, as amended (the "Code"). Pension expense for the Target Benefit plan totaled $1.9 million, $2.5 million, and $1.9 million for the years ended December 31, 1997, 1996, and 1995, respectively. Until September 1996, the Company's flight attendants participated in the World Airways' Flight Attendant Target Benefit Plan, which was a tax-qualified retirement plan under Section 401(a) of the Code. Under the collective bargaining agreement between the Company and the flight attendants, represented by the International Brotherhood of Teamsters ("Teamsters"), that was signed in June 1996 and ratified by the flight attendants in August 1996, the World Airways' Flight Attendant Target Benefit Plan was terminated in September 1996. The Company is required under the agreement to make certain monthly payments on behalf of the flight attendants to the Teamsters subsequent to the termination of the previous plan. Pension contributions made to the Teamsters on behalf of the flight attendants totaled $0.3 million and $0.1 million in 1997 and the fourth quarter of 1996, respectively. Pension expense relating to the Flight Attendant Target Benefit Plan totaled $0.5 million and $0.2 million for the first three quarters of 1996 and the year ended 1995, respectively. Effective January 1, 1994, World Airways adopted the World Airways, Inc. Retroactivity and Profit Sharing Bonus Plan ("the 1994 Profit Sharing Plan"). The 1994 Profit Sharing Plan provides for the payment of retroactive pay to certain DC10 crewmembers for the period July 1, 1992 to August 15, 1994, as well as for certain profit sharing payments. Distributions under the 1994 Profit Sharing Plan are equal to 20% of World Airways defined earnings, subject to an annual limitation of 10% of the total annual aggregate compensation of World Airways employees participating in the 1994 Profit Sharing Plan in that year. This is not a tax-qualified retirement plan under Section 401(a) of the Code. The Company distributed approximately $1.7 million in 1996 pertaining to 1995 results, which included the retroactive payment required under the plan. The Company did not make any 1997 distributions pertaining to 1996 results. The Company expects to distribute approximately $2.6 million in 1998 pertaining to 1997 results, which is included in accrued salaries and wages in the accompanying balance sheet. World Airways' cockpit crewmembers and eligible dependents are covered under postretirement health care benefits to age 65. The Company accounts for the cost of health benefits in accordance with FAS #106 which requires accrual accounting for all postretirement benefits other than pensions. World Airways funds the benefit costs on a pay-as-you-go (cash) basis. A summary of the net periodic postretirement benefit costs for the years ended December 31, 1997, 1996, and 1995 is as follows:
1997 1996 1995 ------------ ------------ ----------- Service cost $ 157,000 $ 176,000 $ 118,000 Interest cost on accumulated postretirement benefit obligation 103,000 100,000 134,000 Net amortized gain (53,000) (38,000) (40,000) -------- -------- -------- Net periodic postretirement benefit cost $ 207,000 $ 238,000 $ 212,000 ======== ======== ========
The components of the Accumulated Postretirement Benefit Obligation for the years ended December 31, 1997 and 1996 are as follows:
1997 1996 ----------- ------------ Retirees and dependents $ 863,000 $ 789,000 Fully eligible, active participants 183,000 229,000 Not fully eligible participants 1,706,000 1,527,000 --------- --------- $ 2,752,000 $ 2,545,000 Less: plan assets -- -- ----------- ---------- Accrued postretirement benefit obligation $ 2,752,000 $ 2,545,000 ========= =========
The assumed discount rate used to measure the accumulated postretirement benefit obligation for 1997 and 1996 was 6.75%. The medical cost trend rate in 1998 was 7.5% trending down to an ultimate rate in 2021 of 4.0%. A one percentage point increase in the assumed health care cost trend rates for each future year would have increased the aggregate of the service and interest cost components of 1997 net periodic postretirement benefit cost by $28,000 and would have increased the accumulated postretirement benefit obligation as of December 31, 1997 by $121,000. The Board of Directors of World Airways adopted an Employee Savings and Stock Ownership Plan (the "Plan") effective October 1, 1996. The Plan is intended to allow employees not covered by collective bargaining agreements, as well as certain WorldCorp and WorldCorp Investments, Inc. employees, to share in the growth and prosperity of the Company, to encourage participants to save on a tax-favored basis, and to provide participants an opportunity to accumulate capital for their future economic security. The Plan is an amendment and continuation of the WorldCorp Employee Savings and Stock Ownership Plan (the "WorldCorp KSOP"). As a result of various business developments, the vast majority of the participants in the WorldCorp KSOP were Company employees. For that reason, the Company and WorldCorp agreed that the Company should assume WorldCorp's obligation under the WorldCorp KSOP. In connection with that action, the Trustees exchanged the unallocated shares of WorldCorp common stock held by the WorldCorp KSOP for a like-value of shares in Company common stock. World Airways also made a special contribution of $50,000 to the Plan. The WorldCorp KSOP originally assumed bank financing from its predecessor plan, the WorldCorp Employee Stock Ownership Plan. This obligation was paid off by WorldCorp in 1994 and the WorldCorp KSOP agreed to repay WorldCorp the amount of the bank loan. The WorldCorp KSOP refinanced its debt to WorldCorp through a margin loan obtained in January 1995 and amended in May 1996 in the amount of $1.5 million. Principal payments of $90,000 are due quarterly and a final principal payment of $0.1 million is due May 1998. Interest is payable quarterly at the call loan rate plus 1.5%. The margin loan is collateralized by approximately 59,677 of the unallocated shares of common stock owned by the Plan at December 31, 1997. The Company is required to make minimum annual discretionary contributions to the Plan in an amount necessary to pay principal and interest due on the margin loan to the extent that other contributions to the Plan are insufficient to make such payments. Contributions were sufficient to make the required principal and interest payments during 1997. World Airways guarantees payment on the margin loan. The outstanding balance is therefore included in current maturities of long-term obligations and stockholders' equity in the accompanying balance sheet at December 31, 1997. The Plan will continue to hold the shares of WorldCorp common stock that were allocated to the participants' accounts before October 1, 1996. No additional shares of WorldCorp common stock will be allocated under the Plan on or after that date. Instead, participants will have the opportunity to receive future allocations of Company common stock. Under the Plan, employees may elect to invest salary deferral contributions in either the World Airways Stock Fund or in other investment funds. The Plan provides employer matching contributions in the World Airways Stock Fund at a rate determined by the Board of Directors, but at no less than 50% of the salary deferral contribution. The employer matching contribution rate in the other investment funds is 33 1/3% of the salary deferral contribution. The Company expensed approximately $0.2 million for its contributions to the Plan during 1997. On May 24, 1995, the Company's stockholders approved the 1995 Stock Option Plan (the "1995 Plan") that took effect May 31, 1995. Members of the Company's Board of Directors, employees, and consultants to the Company or its affiliates are eligible to participate in the 1995 Plan. The Company has reserved 1,100,000 shares of common stock for issuance upon the exercise of options granted to participants under the 1995 Plan. These options expire at the earlier of the stated expiration, which shall not exceed ten years from the date of grant, or one year after the termination of the participant's employment with the Company. Stock options are granted with an exercise price which shall not be less than 85% of the fair market value of the common stock on the date of grant. The stock options have terms ranging from seven years and seven months to ten years and become vested and fully exercisable at various times through December 2007. At December 31, 1997, 1,469,670 shares have been granted under the 1995 Plan. The Company will seek shareholder approval for the additional options granted during the Annual Meeting in 1998. On July 27, 1995, the Company adopted the Non-Employee Directors' Stock Option Plan (the "Directors' Plan"), pursuant to which each non-affiliate director will be offered options to purchase 10,000 shares of common stock upon election or appointment to the Board of Directors of the Company. On the third anniversary of the initial award, each such director will be offered an option to purchase 5,000 shares of common stock. Options granted under the Directors' Plan become exercisable in equal monthly installments during the 36 months following the award, as long as the person remains a director of the Company. The exercise price of all such options will be the average closing price of the common stock during the 30 trading days immediately preceding the date of grant. Up to 250,000 shares of common stock may be issued under the Directors' Plan, subject to certain adjustments. There were no shares granted under this Plan at December 31, 1997. There were no stock options granted during 1996. The per share weighted-average fair value of stock options granted during 1997 and 1995 was $4.67 and $6.29, respectively, on the date of grant using the Black Scholes option-pricing model with the following weighted-average assumptions: 1997 1995 ----------- ----------- Expected dividend yield 0% 0% Risk-free interest rate 5.7% - 5.8% 5.1% - 5.6% Expected life (in years) 3 - 10 4 - 8 Expected volatility 53% - 61% 59% - 62% The Company applies APB Opinion No. 25 in accounting for its Plan and, accordingly, no compensation cost has been recognized for its stock options in the financial statements. Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Company's net income (loss) would have been changed to the pro forma amounts indicated below (amounts in thousands, except per share data):
1997 1996 1995 ----------- ----------- ---------- Net earnings (loss) As reported $ 11,452 $ (14,022) $ 8,896 Pro forma $ 10,502 $ (14,579) $ 7,778 Basic earnings (loss) per common equivalent share As reported $ 1.11 $ (1.19) $ 0.85 Pro forma $ 1.02 $ (1.23) $ 0.74 Diluted earnings (loss) per common equivalent share As reported $ 1.04 $ (1.19) $ 0.84 Pro forma $ 0.97 $ (1.23) $ 0.74
Stock option activity during the periods indicated is as follows:
Number of Options Weighted-Average Outstanding Exercise Prices ----------- --------------- Balance at December 31, 1994 -- $ -- Granted 1,095,843 11.00 Exercised -- -- Forfeited -- -- Expired -- -- --------- Balance at December 31, 1995 1,095,843 $ 11.00 Granted -- -- Exercised -- -- Forfeited (284,670) 11.00 Expired -- -- --------- Balance at December 31, 1996 811,173 $ 11.00 Granted 773,000 7.61 Exercised -- -- Forfeited (114,503) 11.00 Expired -- -- --------- Balance at December 31, 1997 1,469,670 9.20 =========
At December 31, 1997, the range of exercise prices and weighted-average remaining contractual life of outstanding options was $6.75 - $12.50 and 5.5 years, respectively. The following table summarizes the stock options outstanding and exercisable at December 31, 1997:
Stock Options Outstanding Stock Options Exercisable ----------------------------------------- ------------------------- Weighted Weighted Weighted Number of Average Average Number of Average Options Remaining Exercise Options Exercisable Range of Excercise Price Outstanding Life (Years) Price Exercisable Price - ------------------------ ----------- ------------ ----- ----------- ----- 6.75 - 7.00 48,000 6.92 6.75 12,000 6.75 7.01 - 8.00 550,000 7.58 7.38 180,000 7.32 8.01 - 9.00 175,000 8.25 8.38 35,000 8.38 10.01 - 11.00 10,000 5.42 10.25 10,000 10.25 11.01 - 12.00 680,910 3.08 11.00 418,434 11.00 12.01 - 13.00 5,760 5.42 12.50 5,760 12.50 --------- ------- 1,469,670 661,194 ========= =======
At December 31, 1997, 1996 and 1995, the number of options exercisable was 661,194, 315,448 and 304,448, respectively, and the weighted-average exercise price of those options was $9.79, $11.00 and $11.00, respectively. 13. EARNINGS PER SHARE Earnings per common equivalent share for the years ended December 31, 1997, 1996 and 1995 are computed as follows (amounts in thousands except per share data):
For the Year Ended December 31, 1997 ------------------------------------------------------- Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Earnings from continuing operations $ 11,967 10,302 $ 1.16 ========= Effect of Dilutive Securities Options -- 7 8% convertible debentures 1,375 1,970 ------ ------ Diluted EPS Earnings available to common stockholders $ 13,342 12,279 $ 1.09 ====== ====== =========
For the Year Ended December 31, 1996 -------------------------------------------------------- Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Earning from continuing operations $ 18,353 11,806 $ 1.55 ========= Effect of Dilutive Securities Options -- -- ------ ------ Diluted EPS Earnings available to common stockholders $ 18,353 11,806 $ 1.55 ====== ====== =========
For the Year Ended December 31, 1995 ------------------------------------------------------- Earnings Shares Per-Share (Numerator) (Denominator) Amount ----------- ------------- ------ Basic EPS Earnings from continuing operations $ 14,146 10,477 $ 1.35 ========= Effect of Dilutive Securities Options -- 95 ------ ------ Diluted EPS Earnings available to common stockholders $ 14,146 10,572 $ 1.34 ====== ====== =========
Effective January 23, 1998, the Company purchased 773,000 shares of its common stock from MHS (see Note 5). 14. FEDERAL AND STATE INCOME TAXES Income tax expense attributable to earnings from continuing operations consists of (in thousands): For the years ended December 31, ------------------------------------------ 1997 1996 1995 ---- ---- ---- U.S. Federal $ 203 $ 724 $ 514 State 60 (45) 88 ----- ----- ---- Income tax expense $ 263 $ 679 $ 602 ===== ===== ==== There is no deferred tax expense or benefit for the years ended December 31, 1997, 1996, and 1995. The provision for income taxes for fiscal years 1997, 1996, and 1995 has been presented in the statements of operations as continuing operations and discontinued operations as follows (in thousands):
For the years ended December 31, ------------------------------------------- 1997 1996 1995 ---- ---- ---- Tax provision (benefit) allocated to: Continuing operations $ 263 $ 679 $ 602 Discontinued operations -- (645) (306) ------ ----- ----- Total provision for income tax expense $ 263 $ 34 $ 296 ===== ====== =====
Income tax expense attributable to earnings from continuing operations for the years ended December 31, 1997, 1996, and 1995 differed from the amounts computed by applying the U.S. Federal income tax rate of 35 percent for the year ended December 31, 1997 and 34 percent for the years ended December 31, 1996 and 1995 as a result of the following (in thousands):
For the years ended December 31, ------------------------------------------ 1997 1996 1995 ---- ---- ---- Expected Federal income tax expense at the statutory rate $ 4,188 $ 6,471 $ 5,014 Utilization of net operating loss carryforward (5,304) (7,607) (4,932) Alternative minimum and environmental taxes 203 724 285 State income tax expense, net of Federal benefit 39 (30) 58 Other: Meals and entertainment 911 1,057 663 Other 226 64 (486) ------- -------- ------- Income tax expense $ 263 $ 679 $ 602 ======= ======= =======
The tax effects of temporary differences that give rise to significant portions of deferred tax assets and liabilities at December 31, are as follows (in thousands):
1997 1996 ------------ ---------- Deferred tax assets: Net operating loss carryforwards $ 32,258 $ 35,819 Recognition of sales/leaseback gains 1,818 2,126 Accrued maintenance in excess of reserves paid, primarily due to accrual for financial statement purposes 7,744 6,335 Accrued postretirement benefit obligation, due to accrual for financial statement purposes 963 865 Discontinued operations accruals -- 272 Compensated absences, primarily due to accrual for financial statement purposes 1,135 805 Accrued rent 1,547 1,112 Alternative minimum tax credit carryforward 2,790 2,503 Investment tax credit carryforward 667 821 Other 171 457 ------ ------ Gross deferred tax assets 49,093 51,115 Less: valuation allowance 38,256 43,258 ------ ------ Net deferred tax assets 10,837 7,857 ------ ------ Deferred tax liabilities: Property and equipment 10,797 7,650 Other 40 207 ------- ------ Gross deferred tax liabilities 10,837 7,857 ------ ------ Net deferred income taxes $ -- $ -- ======== ========
The valuation allowance for deferred tax assets as of January 1, 1996 was $39.5 million. The net changes in the total valuation allowance for the years ended December 31, 1997 and 1996 were a decrease of $5.0 million and an increase of $3.8 million, respectively. The Company's estimate of the required valuation allowance is based on a number of factors, including historical operating results. The Company generated net earnings in 1997 and 1995, as compared to net losses in both 1996 and 1994. If the Company generates net earnings in 1998 and favorably resolves certain of the uncertainties facing the Company (see Note 2), it is possible that a change in the estimate of the required valuation allowance will occur in the near term, and could differ materially from the amount recorded at December 31, 1997. The availability of net operating loss carryforwards to reduce the Company's future federal income tax liability is subject to limitations under section 382 of the Internal Revenue Code of 1986, as amended (the "Code"). Generally, these limitations restrict the availability of net operating loss and investment tax credit carryforwards upon certain changes in stock ownership by five percent shareholders which, in aggregate, exceed 50 percentage points in value in a three-year period ("Ownership Change"). In August 1991, 5.7 million shares of WorldCorp common stock were sold by a group of existing shareholders. This transaction constituted an Ownership Change as defined under Section 382 of the Internal Revenue Code of 1986, as amended. This Ownership Change subjects the Company to an annual limitation in 1991 and future years in the use of net operating loss, alternative minimum tax credit, and investment tax credit carryforwards which were available to WorldCorp (and thus allocable to the Company) on the date on which the Ownership Change occurred. As of December 31, 1997, the Company had net operating loss carryforwards for federal income tax purposes of $92.2 million. Of this amount, $27.8 million is subject to a $6.9 million annual limitation resulting from the 1991 Ownership Change. The Company's net operating loss carryforwards expire as follows (in millions): 1998 $ 3.2 1999 12.0 2000 15.8 2001 10.2 2005 4.0 2008 26.3 2009 17.9 2011 2.8 ----- $ 92.2 Use of the Company's net operating loss carryforwards in future years could be further limited if an Ownership Change were to occur in the future. While the Company believes that as of December 31, 1997, no Ownership Change has occurred since the 1991 Ownership Change, the application of the Code in this area is subject to interpretation by the Internal Revenue Service. The NOLs are subject to examination by the IRS and, thus, are subject to adjustment or disallowance resulting from any such IRS examination. In addition, conversion of the Debentures or future transactions in the Company's common stock or the common stock of the Company's stockholders, including conversions of a portion of the outstanding WorldCorp debentures into common stock, may cause an Ownership Change, which could result in a substantial reduction in the annual limitation in the use of the NOLs and the loss of a substantial portion of the NOLs available to the Company. 15. MAJOR CUSTOMERS The Company operates in one business segment, the non-scheduled air transportation industry. Information concerning customers for years in which their revenues comprised 10% or more of the Company's operating revenues is presented in the following table (in thousands): Year ended December 31, -------------------------------------- 1997 1996 1995 --------- --------- ---------- Malaysian Airlines $ 64,995 $ 105,410 $ 100,934 U.S. Department of Defense (including U.S. Air Force) 78,896 79,029 52,889 Philippine Airlines 95,427 46,516 -- P. T. Garuda Indonesia 30,627 39,849 26,263 Look Charters -- 3,749 3,677 World Airways has provided wet lease services to Malaysian Airlines since 1981, providing wet lease services for Malaysian Airlines' scheduled passenger and cargo operations as well as transporting passengers for the annual Hadj pilgrimage. MHS, which owned 16.8% of the Company as of January 23, 1998, also owns 28% of Malaysian Airlines. The Company also entered into a 32-month agreement for year-round operations (including the Hadj) with Malaysian Airlines whereby the Company is providing two passenger aircraft with cockpit crews, maintenance and insurance to Malaysian Airlines' newly-formed charter division through May 1999. However, the Company agreed to a five month reduction in the utilization of one aircraft during 1997, although the aircraft was redeployed in other activity. Malaysian Airlines has not informed the Company of any reductions for 1998. The Company provided three aircraft for 1997 Hadj operations. MAS received notice from the Malaysian Hadj Board that MAS would not participate in the 1998 Hadj pilgrimage. As a result, MAS entered into an agreement on behalf of the Company for the Company to provide two DC-10 aircraft to fly in the 1998 Indian Hadj. The Company has a long-term contract to operate three MD-11 cargo aircraft for Malaysian Airlines. However, beginning in July 1996, and as mutually agreed by the parties, World Airways redeployed two cargo aircraft, which had been operating under these contracts, into another contract which ended in February 1998. The Company and Malaysian Airlines are currently discussing the redeployment of these aircraft back into Malaysian Airlines' operations during 1998 in order to meet the contracts' original obligations. The Company can provide no assurances, however, that the Company will, in fact, be able to do so. Malaysian Airlines is subject to the financial difficulties associated with the adverse economic conditions in Malaysia and the Asia Pacific Region, but it has remained current with its payments for committed block hour minimums provided in the contracts. Failure by Malaysian Airlines to meet its aircraft lease obligations, if not offset by other business, would have a material adverse effect on the financial condition, cash flows and results of operations of the Company. The Company's contract with the U.S. Air Force expires in September 1998. The Company anticipates that future renewals of the U.S. Air Force contract will be on an annual basis. The Company has provided service to PT Garuda Indonesia ("Garuda") since 1973 and has operated under an annual Hadj contract since 1988. World Airways operated six aircraft in the 1997 Garuda Hadj and seven aircraft in the 1996 Garuda Hadj. The Company will operate six aircraft for the 1998 Garuda Hadj. The Company had agreements with Philippine Airlines to operate four passenger aircraft until November 1997. As a result of the economic distress experienced in the Philippines, the Company negotiated to terminate the agreements on two of the aircraft effective in August 1997, and received monthly termination payments totaling $3.0 million through the original end of the agreements in November 1997. In addition, the contracts on the remaining two aircraft were extended until February 1998 and the per block hour rates for those two aircraft were reduced slightly. The two aircraft which were removed from Philippine Airlines service were redeployed by the Company under agreements with other customers. The contract with Philippine Airlines expired in February 1998. World Airways provided service to Look Charters under an annual contract from 1992 through 1996. In 1996 and 1995, World Airways performed operations for a summer charter program transporting passengers between Paris, France and various locations in the United States and Mexico. Although the Company's customers bear the financial risk of filling the Company's aircraft with passengers or cargo, the Company can be affected adversely if its customers are unable to operate the Company's aircraft profitably, or if one or more of the Company's customers experience a material adverse change in their market demand, financial condition or results of operations. Under these circumstances, the Company can be adversely affected by receiving delayed or partial payments or by receiving customer demands for rate and utilization reductions, flight cancellations, and/or early termination of their agreements. See Note 2 for further discussion. The Company derives a significant percentage of its revenues and block hours from its operations in the Pacific Rim region. Any further economic decline or any military or political disturbance in this area may interfere with the Company's ability to provide service in this area and could have a material adverse effect on the financial condition or results of operations of the Company. See Note 2 for further discussion. All export contracts are denominated in U.S. dollars as are substantially all of the related expenses. The classification between domestic and export revenues is based on entity definitions prescribed in the economic regulations of the Department of Transportation. Information concerning the Company's export revenues from continuing operations is presented in the following table (in thousands): For the Years Ended December 31, --------------------------------------------- 1997 1996 1995 ---- ---- ---- Operating Revenues: Domestic $ 97,469 $ 91,516 $ 59,278 Export - Malaysia 64,995 105,410 100,934 - Philippines 95,427 46,516 -- - Indonesia 30,627 39,849 26,263 - Belgium 15,407 -- -- - France -- 3,749 6,897 - Other 5,487 22,547 49,014 ------- ------- ------- Total $ 309,412 $ 309,587 $ 242,386 ======= ======= ======= 16. RELATED PARTY TRANSACTIONS Effective January 23, 1998 and December 31, 1997, WorldCorp owned approximately 51.2% and 46.3%, respectively, of the outstanding common stock of World Airways. Transactions between World Airways and WorldCorp are described in Note 4. Effective January 23, 1998 and December 31, 1997, MHS owned approximately 16.8% and 24.9%, respectively, of the outstanding common stock of World Airways. Effective December 31, 1997, MHS owned approximately 28% of the outstanding common stock of Malaysian Airlines. Malaysian Airlines is one of World Airways' largest customers (see Notes 5 and 15). In 1997, the Company paid T. Coleman Andrews, the Chairman of WorldCorp and World Airways, $175,000 in salary for his services as Chairman of the Board of Directors of World Airways. Bain & Company, Inc. provided consulting services of approximately $150,000 to the Company during 1995. A principle of Bain & Company is also a member of the Board of Directors of WorldCorp. 17. COMMITMENTS AND CONTINGENCIES LITIGATION AND CLAIMS World Airways and WorldCorp (the "World Defendants") were defendants in litigation brought by the Committee of Unsecured Creditors of Washington Bancorporation in August 1992, captioned Washington Bancorporation v. Boster et. al., Adv. Proc. 92-0133 (Bankr. D.D.C.) (the "Boster Litigation"). Under a settlement agreement, the plaintiff agreed to dismiss with prejudice the Boster Litigation against all defendants, including the World Defendants, with each party to bear its own costs. Under the settlement agreement, the World Defendants do not have any further liability in the Boster Litigation. The Company's cockpit crew members, who are represented by the International Brotherhood of Teamsters (the "Teamsters"), are subject to a four-year collective bargaining agreement that will become amendable in July 1998. Approximately 37% of the Company's employees are covered under this collective bargaining agreement. The Company expects to begin negotiations in April 1998 and cannot predict the outcome of the negotiations or their possible impact on the Company's financial condition and results of operations. The Company's flight attendants, who are also represented by the Teamsters, are subject to a four-year collective bargaining agreement that will expire in August 2000. The Company's flight attendants argued the "scope clause" of the collective bargaining agreement had been violated by the Company and challenged the use of foreign flight attendant crews on the Company's flights for Malaysian Airlines and Garuda Indonesia which has historically been the Company's operating procedure. The Company is contractually obligated to permit its Southeast Asian customers to deploy their own flight attendants. While the arbitrator in this matter denied in 1997 the Union's request for back pay to affected flight attendants for flying relating to the 1994 Hadj, the arbitrator concluded that the Company's contract with its flight attendants requires the Company to first actively seek profitable business opportunities that require using the Company's flight attendants, before the Company may accept wet lease business opportunities that use the flight attendants of the Company's customers. Subsequently, in 1997, the flight attendants challenged and filed "scope clause" grievances with respect to four separate wet-lease contracts. The Company and the Teamsters are presently in discussions regarding these grievances. At this time, however, the Company can give no assurance that these discussions will be successful and the grievances will not be submitted to formal arbitration. The Company can provide no assurance as to how the resolution of this matter will affect the Company's financial condition and results of operations. World Airways has periodically received correspondence from the FAA with respect to minor noncompliance matters. In November 1996, as the FAA has increased its scrutiny of U.S. airlines, World Airways was assessed a preliminary fine of $810,000 in connection with certain security violations by ground handling crews contracted by World Airways for services at foreign airport locations. Under 49 U.S.C., Section 46301, any violation of pertinent provisions of 49 U.S.C. Subsection 40101 or related rules is subject to a civil penalty for each violation. Upon review of the evidence or facts and circumstances relating to the violation, the statute allows for the compromise of proposed civil penalties. The penalties were proposed by the FAA in connection with inspections at foreign airport facilities and relate primarily to ground handling services provided by World Airways' customers in connection with their operations; specifically, the inspection procedures of its aircraft, passengers and associated cargo. In each of these instances, World Airways' customer was in compliance with international regulations, but not the more stringent U.S. requirements, despite the fact that the flights in question did not originate or terminate in the United States. World Airways has taken steps to comply with the U.S. requirements. In September 1997, the Company entered into a consent order and settlement agreement with the FAA in connection with the above-mentioned alleged violations. Pursuant to this agreement, the Company is liable for the sum of $610,000, of which $405,000 was paid in September. The remaining $205,000 was suspended and will be forgiven if the Company complies with the provisions of the settlement agreement, including not incurring any security violations during the one year period following the execution of the settlement agreement. While World Airways believes it is currently in compliance in all material respects with all appropriate standards and has all required licenses and authorities, any material non-compliance by World Airways therewith or the revocation or suspension of licenses or authorities could have a material adverse effect on the financial condition or results of operations of World Airways. In connection with the discontinuance of World Airways' scheduled service operations, World Airways is subject to claims by various third parties and may be subject to further claims in the future. One claim which had been filed in connection with World Airways' discontinuance of scheduled service to South Africa, and which sought approximately $37.8 million in compensatory and punitive damages, has been settled by the parties for approximately $0.7 million. Also, a claim has been filed in Germany against the Company by a tour operator seeking approximately $3.5 million in compensation related to the cancellation of a summer program in 1996. The Company believes it has substantial defenses to this action, although no assurance can be given of the eventual outcome of this litigation. The Company is involved in various other claims and legal actions arising in the ordinary course of business. In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on the Company's financial condition. CONTINGENT RENTAL PAYMENTS In July 1993, the Company returned certain DC10-30 aircraft to the lessor (see Note 11). As a result of this early lease termination, the Company is responsible, until 2004 for one aircraft and 2005 for the second aircraft, for one-third of any deficit in rent incurred in future leases of the aircraft, up to $100,000 monthly per plane, with an overall combined cap of $1,850,000. The Company incurred $984,000 for rent shortfalls through December 1996. The Company's remaining contingent liability related to this matter approximates $866,000. LETTERS OF CREDIT At December 31, 1996, restricted cash and short-term investments included customer deposits held in escrow and cash pledged as collateral for various letters of credit facilities issued by a bank on the Company's behalf totaling $1.0 million, with expiration dates occurring in 1997. At December 31, 1997, there were no outstanding letters of credit. MD-11 ENGINE MAINTENANCE AGREEMENT Engine maintenance accounts for most of the Company's annual maintenance expenses. Typically, the hourly cost of engine maintenance increases as the aircraft ages. The Company outsources major airframe maintenance and power plant work to several suppliers. The Company has a 10-year contract expiring in August 2003 with United Technologies Corporation's Pratt & Whitney Group for all off-wing maintenance on the PW 4462 engines that power its MD-11 aircraft. Under this contract, the manufacturer agreed to provide such maintenance services at a cost not to exceed specified rates per hour during the term of the contract. The specified rates per hour are subject to annual escalation, increasing substantially in 1998. Accordingly, while the Company believes the terms of this agreement have resulted in lower engine maintenance costs than it otherwise would incur, engine maintenance costs will increase substantially during the last five years of the agreement. The Company began to accrue these increased expenses in 1997 and such expenses will continue to increase during the remainder of the term of the contract as the Company's aircraft fleet ages. 18. UNAUDITED QUARTERLY RESULTS The results of the Company's quarterly operations (unaudited) for 1997 and 1996 are as follows (in thousands except share data):
Quarter Ended --------------------------------------------------------- March 31 June 30 September 30 December 31 Total Year -------- ------- ------------ ----------- ---------- 1997 ---- Operating revenues $ 78,748 $ 81,928 $ 79,924 $ 68,812 $ 309,412 Operating income (loss) 6,336 6,498 (1) 4,523 (2) (500) 16,857 Earnings (loss) from continuing operations 5,020 5,646 3,726 (2,425) 11,967 Discontinued operations (less applicable tax benefit) -- -- -- (515) (515) Net earnings (loss) $ 5,020 $ 5,646 $ 3,726 $ (2,940) $ 11,452 Basic earnings (loss) per common share(4): Continuing operations $ 0.45 $ 0.50 $ 0.35 $ (0.30) $ 1.16 Discontinued operations -- -- -- (0.07) (0.05) ----- ----- ----- ------ ------ Net earnings (loss) $ 0.45 $ 0.50 $ 0.35 $ (0.37) $ 1.11 ==== ==== ==== ====== ====== Diluted earnings (loss) per common equivalent share(4): Continuing operations $ 0.45 $ 0.50 $ 0.25 $ * $ 1.09 Discontinued operations -- -- -- * (0.05) ----- ----- ----- ------- ------ Net earnings $ 0.45 $ 0.50 $ 0.25 $ * $ 1.04 ==== ==== ==== ======= ====== 1996 ---- Operating revenues $ 65,365 $ 86,508 $ 75,397 $ 82,317 $ 309,587 Operating income (loss) (3,325) 15,271 3,716 5,983 21,645 Earnings (loss) from continuing operations (3,687) 14,459 2,909 4,672 (3) 18,353 Discontinued operations (less applicable tax benefit) (4,187) (28,518) 180 150 (32,375) Net earnings (loss) $ (7,874) $(14,059) $ 3,089 $ 4,822 $ (14,022) Basic earnings (loss) per common share(4): Continuing operations $ (0.31) $ 1.20 $ 0.24 $ 0.42 $ 1.55 Discontinued operations (0.35) (2.37) 0.02 0.01 (2.74) ------ ------ ---- ---- ------ Net earnings (loss) $ (0.66) $ (1.17) $ 0.26 $ 0.43 $ (1.19) ====== ====== ==== ==== ====== Diluted earnings (loss) per common equivalent share (4): Continuing operations $ (0.31) $ 1.20 $ 0.24 $ 0.42 $ 1.55 Discontinued operations (0.35) (2.37) 0.02 0.01 (2.74) ------ ------ ---- ---- ------ Net earnings (loss) $ (0.66) $ (1.17) $ 0.26 $ 0.43 $ (1.19) ====== ====== ==== ==== ======
(1) Operating expenses include a $1.0 million reversal of accrued maintenance expense in excess of the cost of an overhaul of a DC-10 aircraft. (2) Operating expenses include a $2.3 million reversal of aircraft costs incurred in 1996 and the first six months of 1997, relating to reimbursements for disputed spare engine lease charges (see Note 11). (3) Earnings from continuing operations in the quarter ended December 31, 1996 includes the reversal of maintenance costs, which had been accrued throughout 1996, of $1.5 million relating to the termination of two DC10-30 aircraft in December 1996 (see Note 5). (4) Earnings per share for the periods presented have been calculated in accordance with Financial Accounting Standard Board's Statement of Financial Accounting Standard No. 128, Earnings Per Share. * Diluted earnings per share are anti-dilutive. INDEPENDENT AUDITORS' REPORT THE BOARD OF DIRECTORS AND STOCKHOLDERS WORLD AIRWAYS, INC.: We have audited the accompanying balance sheets of World Airways, Inc. ("World Airways") as of December 31, 1997 and 1996, and the related statements of operations, changes in common stockholders' equity (deficit) and cash flows for each of the years in the three-year period ended December 31, 1997. In connection with our audits of the financial statements, we also have audited the related financial statement schedule as listed in Item 14(a)(2) herein. These financial statements and financial statement schedule are the responsibility of World Airways' management. Our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. 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 provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of World Airways as of December 31, 1997 and 1996, and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 1997, in conformity with generally accepted accounting principles. Also in our opinion, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. KPMG PEAT MARWICK LLP WASHINGTON, D.C. FEBRUARY 9, 1998 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not applicable. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT DIRECTORS The Company incorporates herein by reference the information concerning directors contained in its Notice of Annual Stockholder's Meeting and Proxy Statement to be filed within 120 days after the end of the Company's fiscal year (the "1998 Proxy Statement"). EXECUTIVE OFFICERS The following table sets forth the names and ages of all executive officers of the Company and all positions and offices within the Company presently held by such executive officers: Name Age Position Held T. Coleman Andrews,III 43 Chairman of the Board, and Director Russell L. Ray 62 President and Chief Executive Officer, and Director James D. Douglas 48 Executive Vice President and Chief Financial Officer Ahmad M. Khatib 49 Executive Vice President - Sales and Marketing, and Director Vance Fort 54 Executive Vice President and General Counsel William R. Lange 53 Executive Vice President - Operations T. COLEMAN ANDREWS, III has served as Chairman of the Board of the Company since September 1986. On March 14, 1997, World Airways announced that Charles W. Pollard departed as President and Chief Executive Officer. Pursuant to the Company's bylaws, Mr. Andrews acted as President and Chief Executive Officer on an interim basis pending the hiring of a Russell L. Ray, Jr. as CEO in April 1997. He is a Director and Chairman of the Board of WorldCorp and has served as a Director of InteliData Technologies Corporation (and its predecessor US Order, Inc.) since 1990. From 1978 through 1986, he was affiliated with Bain & Company, Inc., an international strategy consulting firm. At Bain, he was elected partner in 1982 and was a founding general partner in 1984 of The Bain Capital Fund, a private venture capital partnership. Prior to his experience with Bain, Mr. Andrews served in several appointed positions in the White House for the Ford Administration. He is the brother of A. Scott Andrews. RUSSELL L. RAY, JR. has served as a Director of the Company since July 1993. Mr. Ray was appointed President and CEO of World Airways on April 4, 1997. Prior to that appointment, Mr. Ray was senior advisor to Winston Partners, a private investment firm. From 1992 to 1993, Mr. Ray served as Executive Vice President of British Aerospace, Inc. from 1991 to 1992, Mr. Ray served as President and CEO of Pan American World Airways. From 1988 to 1991, he served as Vice President and General Manager of Commercial Marketing of McDonnell Douglas Corporation, from 1985 to 1988, he served as President of Pacific Southwest Airlines, and from 1971 to 1985, he served as Senior Vice President at Eastern Airlines. Mr. Ray has also served on the boards of directors of a number of public and private companies. JAMES D. DOUGLAS currently serves as Executive Vice President and Chief Financial Officer. He joined the Company in December 1997 after twenty six years in the transportation industry, all within the Union Pacific Corporation companies. During his tenure with Union Pacific, he held various positions, primarily financial assignments, including Senior Vice President - Finance and Administration for Overnite Transportation Company, Union Pacific's trucking entity, and was President and Chief Operating Officer of that company prior to joining World Airways. VANCE FORT currently serves as Executive Vice President and General Counsel, and manages the Human Resources department of the Company. He joined the Company as Senior Vice President, Government and International Affairs, in September 1989. He served as Vice President, International and Government Affairs for the Flying Tiger Line, an air cargo service provider, from September 1987 to September 1989. From 1978 to 1987 he served in various positions at the U.S. Department of Transportation, including service as Deputy Assistant Secretary for Policy and International Affairs. AHMAD M. KHATIB has served as a Director and Executive Vice President - Sales and Marketing of the Company since February 1994. Mr. Khatib has served as Senior Vice President, in different capacities, since June 1988. He joined the Company in May 1972 as a passenger service agent. During his more than 25 years with the Company, he has held numerous management positions in the areas of sales, planning and services as well as in aircraft leasing and related agreements, becoming Vice President of Marketing and Customer Services in 1987. WILLIAM R. LANGE has served as Executive Vice President - Operations since June 19, 1997. Prior to this date, Mr. Lange was the founder and principal of Aero Initiatives, an aviation consulting firm. Mr. Lange was Executive Vice President and Chief Operating Officer of Jetstream Aircraft, Inc. from 1993 until founding Aero Initiatives in 1996, and was Vice President - Jetstream Programs for British Aerospace Holdings, Inc. from 1992. Prior to that, Mr. Lange was President and Chief Operating Officer of Pan Am Express, Inc. from 1989 until 1993 and served in various positions of Pan American World Airways, Inc. from 1973 until 1989. BENEFICIAL OWNERSHIP REPORTING The Company incorporates herein by reference the information required by Item 405 of Regulation S-K contained in its 1998 Proxy Statement. ITEM 11. EXECUTIVE COMPENSATION The Company incorporates herein by reference the information concerning executive compensation contained in the 1998 Proxy Statement. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The Company incorporates herein by reference the information concerning security ownership of certain beneficial owners and management contained in the 1998 Proxy Statement. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The Company incorporates herein by reference the information concerning certain relationships and related transactions contained in the 1998 Proxy Statement. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this report: (1) Financial Statements The following financial statements of World Airways, Inc. are filed herewith: Balance Sheets, December 31, 1997 and 1996 Statements of Operations, Years Ended December 31, 1997, 1996 and 1995 Statements of Changes in Common Stockholders' Equity (Deficit), Years Ended December 31, 1997, 1996 and 1995 Statements of Cash Flows, Years Ended December 31, 1997, 1996 and 1995 Notes to Financial Statements Independent Auditors' Report (2) Financial Statement Schedule Schedule Number II. Valuation and Qualifying Accounts NOTE: All other schedules are omitted because the requisite information is either presented in the financial statements or notes thereto or is not present in amounts sufficient to require submission of the schedules. (3) Index to Exhibits No. Description 1.1 Form of Underwriting Agreement to be entered into among the Company, WorldCorp, Inc. and the Underwriters. Incorporated herein by reference. 3.1 Amended and Restated Certificate of Incorporation. Incorporated herein by reference. 3.2 Amended and Restated Bylaws. Incorporated herein by reference. 4.1 Article IV of the Company's Amended and Restated Certificate of Incorporation, incorporated by reference to Exhibit 3.1 filed herewith, and Section 6 of the Company's Bylaws, incorporated by reference to Exhibit 3.2 filed herewith. 5.1 Opinion of Hunton & Williams. Incorporated herein by reference. 10.1 The Company's 1995 Stock Option Plan. Incorporated herein by reference. 10.2 Form of Directors' Indemnification Agreement. 10.3 Employment Agreement between the Company and Charles W. Pollard, dated as of January 1, 1995. Incorporated herein by reference. 10.4 Amendment No. 1 to the Employment Agreement between the Company and Charles W. Pollard, dated as of May 31, 1995. Incorporated herein by reference. 10.5 Stock Option Agreement between the Company and Charles W. Pollard, dated as of January 1, 1995. Incorporated herein by reference. 10.6 Amendment No. 1 to the Stock Option Agreement between the Company and Charles W. Pollard, dated as of May 31, 1995. Incorporated herein by reference. 10.7 Agreement between the Company and Flight Attendants represented by International Brotherhood of Teamsters. (Filed as Exhibit 10.67 to WorldCorp, Inc.'s Form S-3 Registration Statement (Commission File No. 91998) filed on December 10, 1987 and incorporated herein by reference.) 10.8 Office Lease--The Hallmark Building dated as of September 20, 1989 between the Company and GT Renaissance Centre Limited Partnership. (Filed as Exhibit 10.38 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1989 and incorporated herein by reference.) 10.9 Aircraft Lease Agreement for Aircraft Serial Number 48518 dated as of September 30, 1992 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.38 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1992 and incorporated herein by reference.) 10.10 Amendment No. 1 to Aircraft Lease Agreement for Aircraft Serial Number 48518 dated as of November 1992 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.68 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1993 and incorporated herein by reference.) 10.11 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48518 dated as of March 8, 1993 between the Company and International Lease Financial Corporation. (Filed as Exhibit 10.69 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1993 and incorporated herein by reference.) 10.12 Aircraft Lease Agreement for Aircraft Serial Number 48519 dated as of September 30, 1992 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.39 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1992 and incorporated herein by reference.) 10.13 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48519 dated as of April 23, 1993 between the Company and International Lease Finance Corporation. Incorporated herein by reference. 10.14 Amendment No. 3 to Aircraft Lease Agreement for Aircraft Serial Number 48519 dated as of April 1993 between the Company and International Lease Finance. Incorporated herein by reference. 10.15 Aircraft Lease Agreement for Aircraft Serial Number 48437 dated as of September 30, 1992 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.40 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1992 and incorporated herein by reference.) 10.16 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48437 dated as of March 31, 1993 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.73 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1993 and incorporated herein by reference.) 10.17 Amendment No. 3 to Aircraft Lease Agreement for Aircraft Serial Number 48437 dated as of April 15, 1993 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.74 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1993 and incorporated herein by reference.) 10.18 Aircraft Lease Agreement for Aircraft Serial Number 48633 dated as of September 30, 1992 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.41 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1992 and incorporated herein by reference.) 10.19 Aircraft Lease Agreement for Aircraft Serial Number 48631 dated as of September 30, 1992 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.42 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1992 and incorporated herein by reference.) 10.20 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48631 dated as of April 28, 1995 between the Company and International Lease Finance Corporation. Incorporated herein by reference. 10.21 Aircraft Lease Agreement for Aircraft Serial Number 48632 dated as of September 30, 1992 between the Company and International Lease Finance Corporation. (Filed as Exhibit 10.43 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1992 and incorporated herein by reference.) 10.22 Amendment No. 2 to Aircraft Lease Agreement for Aircraft Serial Number 48632 dated as of April 28, 1995 between the Company and International Lease Finance Corporation. Incorporated herein by reference. 10.23 Accounts Receivable Management and Security Agreement dated as of December 7, 1993 between the Company and BNY Financial Corporation. (Filed as Exhibit 10.46 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1993 and incorporated herein by reference.) 10.24 Amendment (No. 1) to the Accounts Receivable Management and Security Agreement between the Company and BNY Financial Corporation dated March 15, 1995 and effective as of January 1, 1995. Incorporated herein by reference. 10.25 Amendment No. 2 to the Accounts Receivable Management and Security Agreement between the Company and BNY Financial Corporation dated August 1995. Incorporated herein by reference. 10.26 Long Term Aircraft Charter Agreement dated August 20, 1986 between the Company and Malaysian Airline System Berhad (Filed as Exhibit 10.79 to WorldCorp's Annual Report on Form 10-K for the year ended December 31, 1986). Incorporated herein by reference. 10.27 Amendment dated April 10, 1991 to the Long Term Aircraft Charter Agreement dated August 20, 1986 between the Company and Malaysian Airline System Berhad. Incorporated herein by reference. 10.28 Stock Purchase Agreement by and among the Company, WorldCorp, Inc., and Malaysian Helicopter Services Berhad dated as of October 30, 1993. (Filed as Exhibit 10.87 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.29 Stock Registration Rights Agreement between the Company and Malaysian Helicopter Services Berhad dated as of October 30, 1993. (Filed as Exhibit 10.88 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.30 Shareholders Agreement between Malaysian Helicopter Services Berhad, WorldCorp, Inc. and the Company, dated as of February 3, 1994. (Filed as Exhibit 10.89 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.31 Amendment No. 1 to Shareholders Agreement dated as of February 28, 1994, among WorldCorp, the Company and Malaysian Helicopter Services Berhad. (Filed as Exhibit 10.90 to WorldCorp Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.32 Agreement between the Company and the International Brotherhood of Teamsters representing the Cockpit Crewmembers employed by the Company dated August 15, 1994-June 30, 1998. (Filed as Exhibit 10.98 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.33 Aircraft Services Agreement dated September 26, 1994 by and between the Company and Malaysian Airline System Berhad. (Filed as Exhibit 10.101 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.34 Freighter Services Agreement dated October 6, 1994 by and between the Company and Malaysian Airline System Berhad. (Filed as Exhibit 10.102 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.35 Amendment No. 1 to Passenger Aircraft Services and Freighter Services Agreement dated December 31, 1994 by and between the Company and Malaysian Airline System Berhad. (Filed as Exhibit 10.107 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.36 Amendment No. 2 to the Aircraft Services and Freighter Services Agreements by and between the Company and Malaysian Airline System Berhad, dated February 9, 1995. Incorporated herein by reference. 10.37 Amendment No. 3 to the Freighter Services Agreement by and between the Company and Malaysian Airline System Berhad dated May, 1995. Incorporated herein by reference. 10.38 1995 U.S. Air Force Contract F11626-94-D0027 dated October 1, 1994 between the Company and Air Mobility Command. (Filed as Exhibit 10.103 to WorldCorp, Inc.'s Annual Report on Form 10-K/A for the fiscal year ended December 31, 1994 and incorporated herein by reference.) 10.39 FY1996 Contractor Team Agreement among the Company, Continental Airlines, Inc., Emery Worldwide Airlines, Inc., Evergreen International Airlines, Inc., Miami Air International, Inc., Northwest Airlines, Inc. and Rich International Airways, Inc. dated April 3, 1995. Incorporated herein by reference. 10.40 Lease agreement for Aircraft Serial Number 48485 dated as of January 15, 1991 between the Company and First Security National Bank of Utah, N.A. (Filed as Exhibit 10.65 to WorldCorp, Inc.'s Annual Report on Form 10-K for the fiscal year ended December 31, 1991 and incorporated herein by reference). 10.41 Maintenance Agreement between Malaysian Airline System Berhad and the Company dated March 1, 1995. Incorporated herein by reference. 10.42 Form of Master Services Agreement between the Company and WorldCorp, Inc. Incorporated herein by reference. 10.43 1996 U.S. Air Force Contract dated October 1, 1995 between the Company and Air Mobility Command. Incorporated herein by reference. 10.44 Amendment No. 3 to the Accounts Receivable Management and Security Agreement between the Company and BNY Financial Corporation dated as of September 28, 1995. Incorporated herein by reference. 10.45 Amendment No. 4 to the Accounts Receivable Management and Security Agreement between the Company and BNY Financial Corporation dated as of September 28, 1995. Incorporated herein by reference. 10.46 Form of Non-Employee Directors' Stock Option Plan. Incorporated herein by reference. 11.1 Computation of earnings (loss) per share. Filed Herewith 23.1 Consent of Independent Auditors Filed Herewith 27 Financial data schedule for the year ended December 31, 1997 Filed Herewith (b) Reports on Form 8-K Form 8-K dated September 18, 1997, was filed with the Securities and Exchange Commission on October 2, 1997. STATUS OF PRIOR DOCUMENTS World Airways' Annual Report on Form 10-K for the year ended December 31, 1997, at the time of filing with the Securities and Exchange Commission, shall modify and supersede all prior documents filed pursuant to Sections 13, 14, and 15(d) of the Securities Exchange Act of 1934 for purposes of any offers or sales of any securities after the date of such filing pursuant to any Registration Statement or Prospectus filed pursuant to the Securities Act of 1933, as amended, which incorporates by reference such Annual Report on Form 10-K. * * * * * * * * * * * * * * 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. WORLD AIRWAYS, INC. By James D. Douglas Chief Financial Officer 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/ Russell L. Ray, Jr. Chief Executive Officer and March 31, 1998 (Russell L. Ray, Jr.) President /s/ T. Coleman Andrews, III Chairman of the Board March 31, 1998 (T. Coleman Andrews, III) /s/ James D. Douglas Chief Financial Officer March 31, 1998 (James D. Douglas) /s/ Daniel J. Altobello Director March 31, 1998 (Daniel J. Altobello) /s/ A. Scott Andrews Director March 31, 1998 (A. Scott Andrews) /s/ John C. Backus Director March 31, 1998 (John C. Backus) /s/ Ronald R. Fogleman Director March 31, 1998 (Ronald R. Fogleman) /s/ Wan Malek Ibrahim Director March 31, 1998 (Wan Malek Ibrahim) /s/ Ahmad M. Khatib Director March 31, 1998 (Ahmad M. Khatib) /s/ Peter M. Sontag Director March 31, 1998 (Peter M. Sontag) /s/ Lim Kheng Yew Director March 31, 1998 (Lim Kheng Yew) EX-99 12 INTELIDATA 10-K 1997 ================================================================================ SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------------------- FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 ---------------------- For the fiscal year ended: DECEMBER 31, 1997 Commission File Number 000-21685 INTELIDATA TECHNOLOGIES CORPORATION (Exact name of registrant as specified in its charter) DELAWARE 54-1820617 (State of incorporation) (I.R.S. Employer Identification Number) 13100 Worldgate Drive, Suite 600, Herndon, VA 20170 (Address of Principal Executive Offices) (703) 834-8500 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: Title of Each Class Name of Each Exchange on Which Registered NONE Securities registered pursuant to Section 12(g) of the Act: Common Stock par value $.001 per share 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 ----- ----- State 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 held by non-affiliates of the registrant on March 1, 1998, was approximately $65,142,000. In determining this figure, the Registrant has assumed that all of its directors and executive officers are affiliates. Such assumptions should not be deemed to be conclusive for any other purpose. The number of shares of the registrant's Common Stock outstanding on March 1, 1998 was 31,170,949. DOCUMENTS INCORPORATED BY REFERENCE Portions of InteliData Technologies Corporation's Proxy Statement for its 1998 Annual Stockholder Meeting, to be filed within 120 days after the end of the registrant's fiscal year, are incorporated into Part III of this Report. ================================================================================ INTELIDATA TECHNOLOGIES CORPORATION 1997 ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS Page ---- PART I - ------ Item 1. Business............................................................3 Item 2. Properties.........................................................17 Item 3. Legal Proceedings..................................................17 Item 4. Submission of Matters to a Vote of Stockholders....................17 PART II - ------- Item 5. Market for Registrant's Common Stock and Related Stockholder Matters................................................18 Item 6. Selected Financial Data............................................19 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operation...............................................20 Item 8. Financial Statements and Supplementary Data........................38 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure...........................................65 PART III - -------- Item 10. Directors and Executive Officers of the Registrant.................66 Item 11. Executive Compensation.............................................68 Item 12. Security Ownership of Certain Beneficial Owners and Management.....68 Item 13. Certain Relationships and Related Transactions.....................68 PART IV - ------- Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K...........................................................69 PART I ITEM 1. BUSINESS - ----------------- GENERAL InteliData Technologies Corporation ("InteliData" or the "Company"), was incorporated on August 23, 1996 under the Delaware General Corporation Law in order to effect the mergers ("Mergers") of US Order, Inc. ("US Order") and Colonial Data Technologies Corp. ("Colonial Data"). The Mergers were announced on August 5, 1996, when US Order and Colonial Data entered into an Agreement and Plan of Merger ("Merger Agreement"). On November 7, 1996, the Mergers were consummated with each share of outstanding US Order and Colonial Data common stock being exchanged for one share of InteliData common stock. Accounting for the Mergers was treated as a purchase of Colonial Data by US Order. Accordingly, financial statements of the Company included herein reflect the results of US Order through November 7, 1996 and the consolidated results of US Order and Colonial Data thereafter. Effective September 30, 1996, US Order acquired the business of Braun, Simmons & Co., an Ohio corporation ("Braun Simmons"), for approximately $7 million consisting of cash and US Order common stock (and including US Order transaction costs) pursuant to the merger of Braun Simmons into US Order (the "Braun Simmons Acquisition"). Braun Simmons was an information engineering firm specializing in the development of home banking and electronic commerce solutions for financial institutions. The acquisition expanded the Company's product line for both large and small financial institutions. The business of the Company consists of the businesses previously conducted by US Order, Colonial Data and Colonial Data's subsidiaries. The Company develops and markets products and services for the telecommunications, retail and financial services industries through its two primary business divisions: telecommunications and electronic commerce. The telecommunications division designs, develops and markets telecommunications products that support intelligent network services being developed and implemented by the regional Bell operating companies ("RBOCs") and other telephone companies ("telcos"). The Company has concentrated its product development and marketing efforts on products that support Caller ID and other emerging intelligent network services, including smart telephones which provide consumers call management features and the ability to access numerous network services and interactive applications via telephone. The Company currently offers a line of Caller ID adjunct units, smart telephones, small business telecommunications systems and high-end telecommunications equipment. The Company also repairs and refurbishes telecommunications products for commercial customers and provides other services that support the development and implementation of intelligent network services. The electronic commerce division develops and markets software products and implementation services to assist financial institutions in their home banking and electronic bill payment initiatives. The products are designed to assist consumers in accessing and transacting business with their banks and credit unions electronically, and to assist financial institutions in connecting to and transacting business with third party processors. The services focus on consulting and maintenance agreements that support the Company's products. In 1994, the Company sold its bill payment operations and technology (the "Visa Bill-Pay System") to Visa for cash and the right to future royalty payments which are based on the number of customers utilizing the Visa Bill-Pay System. In August 1997, Integrion Financial Network ("Integrion") acquired Visa InterActive, and certain rights in the Visa Bill-Pay System, from Visa. In October 1997, the Company surrendered the right to certain future royalty payments in exchange for $5,000,000 in cash from Visa. The cash payment is recorded as deferred revenue and is being recognized into electronic commerce revenues over a two year period. During the fourth quarter of 1997, the Company announced its intention to sell the interactive services division which was established to provide interactive applications for use on smart telephones and other small screen devices, such as alpha-numeric pagers, Personal Communication Systems ("PCS") devices and personal digital assistants ("PDAs"). The discontinued operations of the interactive services division are not considered to be material to the overall financial statements. The Company's principal executive offices are located at 13100 Worldgate Drive, Suite 600, Herndon, Virginia 20170 and its telephone number is (703) 834-8500. INDUSTRY BACKGROUND The Company maintains operations in two primary markets: telecommunications and electronic commerce. Telecommunications The telecommunications division designs, develops and markets telecommunications products that support intelligent network services being developed and implemented by RBOCs and other telcos. Deregulation and technological advances have intensified competition among existing operators of telecommunication networks and encouraged the entrance of new service providers. In the United States, competition among RBOCs, other telcos and long distance carriers and new service providers that have entered the local and long distance markets, has increased and may increase further as a result of the Telecommunications Act of 1996 (the "Telecommunications Act") or industry consolidation. RBOCs and other telcos are responding to increasing competition by, among other things, introducing value-added, intelligent network services. In order to deploy intelligent network services, the telcos have been upgrading their telecommunications networks to support a set of standards, known as the Intelligent Networks ("IN"). IN supports open, distributed switching and processing capabilities and allows the telcos to create, modify and deploy new services quickly and economically. In addition, Bell Communications Research, Inc. has developed the Analog Display Services Interface ("ADSI"), a standard protocol for the simultaneous transmission of data and voice information between an information source and a subscriber's telephone or other communications device such as a smart telephone. One of the first intelligent network service offerings by RBOCs and telcos was Caller ID, a service that provides information about the incoming call, including the number and name of the caller and the time and date of the call, enabling that information to be displayed on a screen located on the telephone (an integrated telephone) or on a device located near the telephone, in the case of an adjunct unit. InteliData estimates that the current penetration rate of Caller ID service is approximately 25% of the total subscribers in those areas in the United States that have Caller ID capabilities. By deploying the ADSI protocol in the telecommunications network, RBOCs and other telcos will be able to offer additional intelligent network services and third-party interactive applications. ADSI-based services will include Caller ID on Call Waiting together with call disposition. By subscribing to Caller ID on Call Waiting with Disposition, a subscriber who receives a Call Waiting signal can look at the Caller ID display screen and see the name and number of the calling party before deciding whether to answer the call, send a prerecorded message telling the calling party to wait, forward the call to voice mail, conference both calls together or drop the line. Additional services which can be supported through ADSI include on-line directory assistance, e-mail, paging, news, weather, stock quotes and other information. The regulatory environment relating to the telecommunications industry is undergoing rapid and significant changes. The Telecommunications Act has effected basic changes in the telecommunications regulatory scheme. The intention of the Telecommunications Act is to enhance competition in all telecommunications markets and bring new packages, lower prices and increased innovation to telephone customers in the United States. The Federal Communications Commission ("FCC") issued its first major order under the Telecommunications Act in August, 1996 which constitutes the FCC's initial measures to implement sections of the Telecommunications Act relating to interconnection between carriers and the provision of access to unbundled services. However, portions of this order, most significantly its pricing provisions, have been successfully challenged in the U.S. Court of Appeals for the Eighth Circuit. The U.S. Supreme Court has agreed to review the Eighth Circuit's decision overturning those provisions. In December 1996, the FCC issued a Notice of Proposed Rulemaking which suggests rules concerning the implementation of the Telecommunications Act provisions relating to RBOC manufacture of telecommunications and customer premises equipment. Although the FCC has not yet implemented the regulations relating to those provisions, the proposed regulations would permit RBOCs to manufacture products that support Caller ID and other emerging intelligent network services subject to certain conditions. The U.S. District Court for the Northern District of Texas has declared the Telecommunications Act's manufacturing provisions, among others, unconstitutional. The decision has been stayed pending review by the U.S. Court of Appeals for the Fifth Circuit. The Company is unable to predict what effect, if any, the Telecommunications Act and the emerging regulatory scheme under the Telecommunications Act will have on Caller ID service or the Company's business generally. Electronic Commerce The electronic commerce division provides software products and implementation services to financial institutions whose processes and systems are subject to regulatory approvals. Electronic commerce is a developing marketplace. Financial institutions are expanding their electronic home banking services to permit customers not only to review historical account information, but also to engage in transactions such as paying bills and transferring funds. The Company's future growth and profitability will depend, in part, upon consumer acceptance of electronic home banking. PRODUCTS AND SERVICES The Company's business strategy is to develop products and services to meet the needs of its customers in the telecommunications and electronic commerce markets. The Company develops products and services for the RBOCs and other telcos, financial institutions and their customers. The Company strives to develop products with broad appeal that are easy-to-use, practical, inexpensive and built around common industry standards. The Company believes its electronic commerce products position the Company to offer support services which are expected to generate recurring monthly fee revenue. Telecommunications Since introducing the first commercially available Caller ID unit in 1987, the Company has developed and marketed Caller ID products with increased functionality to meet the needs of its RBOC and other telco customers. A substantial majority of the Company's revenues are derived from the sale of its Caller ID products. The following represent the Company's telecommunications products and services: Entry Level Caller ID Adjunct Devices ------------------------------------- The Company provides low-priced, entry level Caller ID devices primarily to support RBOC marketing and promotional campaigns in which a telco may give away or subsidize the purchase of a Caller ID adjunct device when a consumer subscribes for the service. The Company believes that RBOCs utilize lower-priced products to reduce or eliminate the initial consumer expenditure required to obtain the service and, as a result, may subsequently achieve higher penetration rates for Caller ID in selected markets. The Company's entry level Caller ID adjunct devices have suggested retail prices of $19.99 to $29.99. Full-Featured Caller ID Adjunct Devices --------------------------------------- The Company's full-featured products display all transmitted information before the incoming telephone call is answered and store this information in memory. Among the features available on the Company's full-featured products are memory capacity for up to 99 calls, a "blocked call"/"new call" light, a patented "Block the Blocker" feature, a bilingual display and a "message waiting alert" light that indicates to a network voice mail subscriber that a new voice mail message has been received. "Block the Blocker" is a feature that detects when call block is used by a caller, delivers a message to that caller that the Caller ID subscriber does not accept blocked calls and disconnects the call. The Company's full-featured Caller ID adjunct devices have suggested retail prices of $29.99 to $59.99. Caller ID on Call Waiting ------------------------- Caller ID on Call Waiting allows a subscriber to combine both Caller ID and Call Waiting network services, to view the directory name and telephone number of an incoming call as the Call Waiting signal is delivered. The Company's Caller ID on Call Waiting adjunct device also allows a consumer to store approximately 85 names and numbers in memory. The Caller ID on Call Waiting adjunct device has a suggested retail price of $69.99. Call Manager ------------ The Call Manager is a sophisticated Caller ID device that works with both single-data and multi-data message services. The Call Manager stores up to 75 of the most recent names and numbers called. The product incorporates a wide variety of telco provided network services, including Caller ID on Call Waiting with Disposition, into a compact adjunct. The Call Manager has a suggested retail price of $89.99. Smart Telephones ---------------- The Company offers a line of smart telephones with integrated Caller ID, Caller ID on Call Waiting and preprogrammed keys to support intelligent network services. The Company's ADSI-Compatible smart telephone was designed and developed by the Company and is being marketed under the Intelifone(TM) brand name. The smart telephone incorporates a graphics display screen, magnetic card reader, alpha-numeric keypad, V.22 modem and a processor. It also supports Caller ID with Disposition, the integration of Caller ID on Call Waiting and a visual message waiting indicator. The Company's smart telephones have suggested retail prices of $99.99 to $199.99. Small Business Telecommunications Systems ----------------------------------------- The Company, through one of its subsidiaries, distributes small business telecommunications systems and multi-line telephones. The small business telecommunications systems include analog and digital key systems that allow up to 128 individual telephone lines to be serviced from the same operating system. These small business systems are sold through independent dealers that install and service the products. The IPS telephone systems and multi-line telephones are also sold through retail stores. The Company markets its small business telecommunications systems to small businesses and small office/home office ("SOHO") consumers who are looking for an easy-to-install communications system at a reasonable price. Repair and Refurbishment ------------------------ The Company has provided telephone repair and refurbishment services to telcos and certain telephone equipment manufacturers for a wide variety of telecommunications products, including corded and cordless telephones, key telephone business systems, cellular telephones and leased telephone products. During the year ended December 31, 1997, the Company's service customer base included Nitsuko America Corp., TIE/communications, Inc. ("TIE") and Motorola, Inc. Electronic Commerce The Company's strategy in the electronic commerce market is to support financial institutions by providing products and services that help them deploy home banking to their customers. In addition, during the first half of 1997, the Company supported Visa InterActive and Visa member banks with products and services which facilitate bill payment and bill presentment. The Company's products and services are designed to provide financial institutions the capability to process banking transactions from multiple channels including personal computers, internet or telephone. The following represent the Company's electronic commerce products and services: Interpose(TM) Financial Engine ------------------------------- The Interpose Financial Engine is the heart of the Company's home banking software system. It runs on the financial institution's host computer system, providing real-time connectivity to remote delivery channels. Along with this critical host connection, Interpose provides robust customer profiling and control over system security. Its Advanced Financial Message Set gives banks the functionality to offer a complete range of online financial services. Interpose(TM) OFX Server ------------------------ The Interpose OFX Server allows a financial institution to take advantage of the Open Financial Exchange ("OFX") standard to directly support customers who use Intuit Quicken(R), Microsoft Money(R), Home Financial Network's Home ATM(TM), and other OFX compliant client software. It supports synchronized information across all delivery channels, including personal computers, the internet and telephones. Interpose(TM) Bill Payment Warehouse ------------------------------------ The Interpose Bill Payment Warehouse provides a software solution to financial institutions that automates bill payment processing while giving the financial institution the benefit of tracking payment activity and integrating delivery channels. MoneyClip(TM) ------------- The MoneyClip smart card system allows financial institutions to offer a secure banking system based on smart cards with digital certificates. MoneyClip can turn almost any personal computer into a smart card reader, providing home banking security and building an infrastructure for stored value and internet commerce applications. The smart card contains a digital certificate that permits access to bank account information and transactions, letting users bank from any internet connected personal computer with a 3.5-inch disk drive. Product Support Services ------------------------ The Company offers its clients consulting services to assist in implementation, training and customization on a time and materials basis and provides maintenance services and software upgrades pursuant to agreements which are typically renewable on an annual basis. Customer Support Services ------------------------- The Company offered bank-branded turnkey customer service to financial institutions in support of its consumer access products. The Company's customer service operation was open seven days a week, 18 hours a day. If a bank chose the Company to provide customer service, the Company typically received a start-up fee from that bank and a per minute fee per customer. The Company discontinued its customer support services in the second quarter of 1997. MARKETING AND DISTRIBUTION The Company sells its products and services to telephone operating companies, retailers and financial institutions in the United States. Revenues from Bell Atlantic, Worldwide Telecom and the US West lease base represented 19%, 19% and 14% of total revenues for the year ended December 31, 1997. Telecommunications The Company markets its telecommunications products and services through 22 employees in its direct sales force and marketing department, and currently uses 14 independent sales representative firms. The Company's distribution strategy is to make its products available to potential end users through multiple distribution channels including: direct fulfillment arrangements, direct marketing, retailers and others as described below. Direct Fulfillment Arrangements ------------------------------- The Company sells telecommunications products to RBOC subscribers and other telco subscribers through direct fulfillment arrangements with Ameritech Corporation ("Ameritech"), Bell Atlantic Corporation ("Bell Atlantic"), BellSouth Corporation ("BellSouth") and SBC Communications Inc. ("SBC"). In most instances, the telco representatives market both Caller ID service and the Company's equipment to subscribers and transmit equipment orders to the Company electronically on a daily basis. The Company then ships its equipment directly to the subscribers and bills the telco which, in turn, bills its subscribers directly or through a third party. As part of promotional campaigns, some RBOCs may elect to purchase Caller ID units from the Company and distribute them to their subscribers free of charge. The Company provides an 800 number for service and support to help the subscriber understand how to utilize the Caller ID service and equipment. The Company continually seeks to strengthen its current telco marketing alliances and to develop new alliances. The Company believes that marketing of Caller ID service and equipment is more successful when the subscriber can subscribe to Caller ID service and purchase or lease Caller ID equipment from a single source, especially when payment for equipment can be made either on an installment basis or by monthly lease payments through the subscriber's telephone bill. The Company believes that subscriber satisfaction with Caller ID service is enhanced when the subscriber receives Caller ID equipment promptly after ordering the service and is provided an 800 number for service and support. Direct Marketing on Behalf of Telcos ------------------------------------ During 1997, the Company was a party to a joint venture agreement with the direct marketing firm of Blau Marketing Technologies, Inc. The joint venture operated through a jointly owned corporation, Worldwide Telecom Partners, Inc. ("Worldwide Telecom"), which was 50% owned by each of the joint venturers. Worldwide Telecom provided direct marketing services to Ameritech, Bell Atlantic and SBC under several separate programs and has completed numerous programs for Caller ID, Call Answering and Call Waiting services. InteliData supplied Caller ID units and product management services for Worldwide Telecom. The joint venture agreement was terminated by the Company in the third quarter of 1997. Beginning in 1998, the Company has contracted with telcos directly to market services on behalf of the telcos. The Company expects to aggressively compete in this marketplace. Retail and Other Customer Sales ------------------------------- The Company sells Caller ID units, smart telephones and small business telephone systems to national, regional and local retailers and private label customers. A substantial portion of the Company's retail sales are made through manufacturers' representatives or distributors with the support of the Company's sales personnel. The Company's retail customers include Sears, Roebuck & Co., Staples, Inc. and OfficeMax, Inc. among others. In addition, the Company sells its small business telephone systems and multi-line telephones to small business dealers and distributors. Electronic Commerce The Company concentrates its marketing efforts on direct sales to financial institutions. Currently, the Company is marketing to the top 200 banks in the United States and targeting financial institutions that have a large percentage of customers interested in home and remote banking. The Company is developing products and services to assist financial institutions who want to provide their customers with the ability to access certain information from their bank accounts and complete transactions with the bank concerning bill payments, loan payments, online transfers and other transactions from remote locations via touch tone telephones, personal computers and screen based telephones. COMPETITION Telecommunications The market for the Company's products and services is highly competitive and subject to increased competition resulting from rapid technological change as well as increased competition resulting from changes in the telecommunications regulatory environment, telecommunications industry consolidation and the emergence of new market entrants. At present, the Company's principal competitors in the market for Caller ID products are CIDCO Incorporated ("CIDCO"), Lucent Technologies, Inc. ("Lucent") and Northern Telecom, Ltd. ("Northern Telecom"). The Company's Caller ID products also compete with Caller ID adjuncts and telephones offered by Panasonic, Sony Corp. ("Sony"), Thomson Consumer Electronics, Inc. ("Thomson"), TT Systems Corporation ("TT Systems"), US Electronics, Inc. ("US Electronics") and other companies. The Company expects competition to increase in the future from existing and new competitors, possibly including telcos or other current customers, from network switch-based services and from the increased application of cellular technology. The Company's primary current and potential competitors in the market for products that support intelligent network services have substantially greater financial, marketing and technical resources than the Company. Increased competition could materially and adversely affect the Company's results of operations through, among other things, price reductions and loss of market share. The Company competes with a large number of competitors for its repair services and other services supporting the development and implementation of intelligent network services. Several of the Company's competitors in the market for such services have substantially greater financial, marketing and technological resources than the Company. There can be no assurance that the Company will be able to continue to compete successfully against its existing competitors or that it will be able to compete successfully against new competitors. The Company believes that the principal competitive factors in the markets for its telecommunications products and services are knowledge of the requirements of the various RBOCs and other telcos, product reliability, product design, the quality of repair and support services, customer service and support, and price relative to performance. The Company competes in the market for its telecommunications products and services principally on the basis of its relationships with telcos, product design and reliability, low product pricing and flexibility of marketing alternatives, including leasing. Electronic Commerce The Company's electronic commerce products and services face competition from several types of competitors. Some banks have elected to develop internally their own home banking solutions instead of purchasing products and services from the Company or third parties. Banks may also contract with service bureaus, such as Checkfree Corp., Security First Network Bank or Online Resources, Inc., to obtain electronic commerce services. Finally, a number of other software companies, including Edify Corp., Corillian Corporation and Destiny Software Corporation, offer products and services that compete with those of the Company. The Company expects that competition in all of these areas will increase in the near future. The Company believes that a principal competitive factor in its markets is the ability to offer an integrated system of various electronic commerce products and services. Competition will be based upon price, performance, customer service and the effectiveness of marketing and sales efforts. The Company competes in its various markets on the basis of its relationships with strategic partners, by developing many of the products required for complete solutions, by leveraging market experience, and by building reliable products and offering those products at reasonable prices. PRODUCT DEVELOPMENT The Company operates in industries that are rapidly growing and changing. In efforts to improve the Company's position with respect to its competition, the Company has increased its product development efforts and has focused management efforts in the area of product development. In 1997, 1996 and 1995, the Company's research and development expenditures, exclusive of nonrecurring in-process research and development expenses were $9,691,000, $2,649,000 and $1,067,000, respectively. At December 31, 1997, 43 employees were engaged in product development including 14 in the telecommunications division and 29 in the electronic commerce division. Telecommunications The Company's product development efforts are focused on new products that support intelligent network services, product enhancements, international standards compliance and the continued improvement of hardware components to reduce manufacturing costs. The Company's product development group is experienced in engineering products for high-volume assembly, stressing low-cost manufacturing design while maintaining quality, consistency and reliability. The Company's products utilize proprietary electrical, mechanical and software design. Standard Telecommunications Ltd. ("STL") of Hong Kong, an affiliate of the Company's principal manufacturer, provides additional design, engineering and product development support services to the Company from time to time on a subcontract basis. The Company also utilizes the engineering resources of some of its other manufacturers. Electronic Commerce The electronic commerce division's product development efforts are focused on software and systems for electronic banking. In particular, the Company applies its research and development expenditures to data transaction processing and messaging software. The electronic commerce industry is characterized by rapid change. To keep pace with this change, the Company maintains an aggressive program of new product development and dedicates considerable resources to research and development to further enhance its existing products and to create new products and technologies. The Company's ability to attract and retain highly skilled research and development personnel is important to the Company's continued success. MANUFACTURING The Company's primary equipment manufacturer in the past has been STL and certain of its affiliates, which have ISO 9000 series certified facilities located in the People's Republic of China, for the manufacture of its Caller ID units, smart telephones and other products. In addition, the Company has established relationships with other ISO 9000 series certified Asian manufacturers for its smart telephones and small business telecommunications products. The facilities of the Company's suppliers are supplemented, in part, by the Company's own limited manufacturing facilities in Connecticut. The availability or cost of the Company's products may be affected by political, economic or labor conditions in the countries where those products are manufactured, including the 1997 return of Hong Kong to China, by fluctuations in currency exchange rates and by other factors. In addition, a change in the tariff structure or other trade policies of the United States could adversely affect the Company's foreign manufacturing strategies. The Company does not have any production contracts with its assembly contractors. The Company's principal manufacturer performs comprehensive inspection and statistical process control testing, utilizing the Company's internally designed automated testing equipment. To date, the Company has not experienced significant returns of defective products. In the United States, the Company's manufacturing operations are limited to the testing, quality control and shipping of finished products and the purchase and inventory management of two key components of the Company's products. The key components used in the Company's products are currently being purchased from two sources, except for its application specific integrated circuit ("ASIC") chips, which are purchased from a single source. Although the Company believes it could develop other sources for each of the components for its products, the process could take several months, and the inability or refusal of any such source to continue to supply components could have a material adverse effect on the Company pending the development of an alternative source. GOVERNMENT REGULATION Telecommunications The regulatory environment relating to the telecommunications industry is undergoing rapid and significant changes. The Telecommunications Act has effected basic changes in the telecommunications regulatory scheme. The intention of the Telecommunications Act is to enhance competition in all telecommunications markets and bring new packages, lower prices and increased innovation to telephone customers in the United States. The FCC issued its first major order under the Telecommunications Act in August 1996 which constitutes the FCC's initial measures to implement certain sections of the Telecommunications Act relating to interconnection between carriers and the provision of access to unbundled services. However, portions of this order, most significantly its pricing provisions, have been successfully challenged in the U.S. Court of Appeals for the Eighth Circuit. The U.S. Supreme Court has agreed to review the Eighth Circuit's decision overturning those provisions. In December 1996, the FCC issued a Notice of Proposed Rulemaking which suggests rules concerning the implementation of the Telecommunications Act provisions relating to RBOC manufacture of telecommunications and customer premises equipment. Although the FCC has not yet implemented the regulations relating to those provisions, the proposed regulations would permit RBOCs to manufacture products that support Caller ID and other intelligent network services subject to certain conditions. The U.S. District Court for the Northern District of Texas has declared the Telecommunications Act's manufacturing provisions, among others, unconstitutional. The decision has been stayed pending review by the U.S. Court of Appeals for the Fifth Circuit. The Company is unable to predict what effect, if any, the Telecommunications Act and the emerging regulatory scheme under the Telecommunications Act will have on Caller ID service or the Company's business generally. In the United States, Caller ID and other intelligent network services offered by telcos are subject to federal and state regulation. Caller ID is currently available in all 50 states and the District of Columbia. However, during the past several years, protests by special interest groups and regulatory concerns regarding the privacy aspects of the service have been effective in both slowing down the regulatory approval process and, in most states, requiring free per-call or per-line call blocking to be offered by the telcos, thereby allowing a caller to prevent the display of his or her name and number. A series of FCC orders require all U.S. telephone service providers with signaling system 7 ("SS7") switching architecture to transmit to each other without charge Caller ID number information on interstate calls within the United States (except for public pay phones, hotel and motel lines, and party lines). FCC orders also require that by March 28, 1998, telcos that offer Caller ID service must provide to their telephone subscribers without charge per-call blocking and unblocking mechanisms to block and unblock the transmission of their Caller ID information on interstate calls and must inform subscribers that their telephone numbers may be identified to a called party and how to use these blocking and unblocking capabilities. Although the initial FCC order setting forth these requirements was implemented December 1, 1995, several factors may delay, prevent or substantially limit the implementation or market acceptance of Caller ID. The availability of Caller ID service in a particular area requires end-to-end interconnection of SS7 networks between telcos and other carriers. Further, the FCC Order requires telcos to offer free per-call blocking for interstate calls to all customers to protect privacy interests and permits state public utility commissions to authorize per-line blocking for interstate calls. Such blocking, if widely adopted, could limit the usefulness and marketability of the Caller ID service. The California Public Utilities Commission and AT&T Corp. ("AT&T") filed petitions for review of the FCC Order in federal court challenging portions of the FCC Order. Although the FCC Order withstood that particular challenge, other parties have also objected to, sought delays in the implementation of or sought clarification of the FCC Order. In addition, in the future, Caller ID service may be subject to additional state and federal legislation, regulation and court challenges. The Company is unable to predict what effect, if any, further legislation, regulation, court challenges or other objections may have on the FCC Order or Caller ID service. The Company's smart telephone products are subject to regulation by the FCC. Among other requirements, the Company's smart telephones must comply with Parts 15 and 68 of the FCC's regulations. Electronic Commerce The banking market which the Company has targeted for marketing is highly regulated. The banking industry, although it has recently undergone significant deregulation, remains quite regulated at both the federal and state levels. Interpretation, implementation or revision of banking and telecommunications regulations can accelerate or hinder the ultimate success of the Company and its products. PATENTS, PROPRIETARY RIGHTS AND LICENSES The Company holds limited patent or registered intellectual property rights with respect to its products. The Company has been issued a patent for its "Block the Blocker" feature and certain aspects of its Caller ID on Call Waiting product. However, there can be no assurance that the patent will afford effective protection of the Company's technology. The Company also holds or has filed for patents on certain new features developed by the Company for use in the ADSI smart telephone and certain of its transaction processing technology, but there can be no assurances that such patents will have any commercial value. The Company additionally relies on trade secret laws to establish and maintain its proprietary rights to its products. Although the Company has obtained confidentiality agreements from its key executives and engineers in its product development group, there can be no assurance that third parties will not independently develop the same or similar alternative technology, obtain unauthorized access to the Company's proprietary technology or misuse the technology to which the Company has granted access. The Company has rights to practice the inventions under certain of Lucent's Caller ID patents. These patents are also licensed to others, including the Company's competitors. Lucent receives royalties from sales and leases of the Company's Caller ID products other than to Lucent. The Lucent license agreement has no expiration date but is terminable by Lucent for breach on two months' written notice unless within such time all specified breaches have been remedied. If the Lucent license were terminated and the Company were unable to negotiate a new patent license agreement with Lucent, the Company would no longer be authorized to manufacture or sell Caller ID products in the United States other than to the RBOCs and to Lucent. Additionally, under the agreement, the Company granted Lucent a non-exclusive, royalty-free license to all patents on inventions which are improvements or modifications based upon the technology licensed from Lucent. The Company does not believe that its products and services infringe on the rights of third parties. From time to time, third parties assert infringement claims against the Company. There can be no assurance that any such assertion will not result in costly litigation or require the Company to cease using, or obtain a license to use, intellectual property rights of such parties. EMPLOYEES At December 31, 1997, the Company had approximately 280 employees, of whom 265 were full-time. The Company has no collective bargaining agreements with its employees and believes that its relationship with its employees is good. ITEM 2. PROPERTIES - ------------------- The Company is headquartered in Herndon, Virginia, where it leases 30,000 square feet of office space from an unaffiliated party. The lease expires in August 1999. The Company also leases other, less significant sales and product development facilities. Additionally, the Company owns a building located in New Milford, Connecticut which consists of approximately 63,000 square feet. Certain environmental contamination occurred in the part of the facility formerly occupied by another tenant and the Connecticut Department of Environmental Protection performed a clean-up and removed such contamination. The Company does not believe the foregoing will have a materially adverse effect on the Company. The Company believes that its facilities are suitable and adequate for the current and foreseeable future business of the Company, however, the Company will continue to assess its warehousing and office space needs. ITEM 3. LEGAL PROCEEDINGS - -------------------------- The Company is not currently a party to any material litigation. From time to time, the Company is a party to routine litigation incidental to its business. Management does not believe that the resolution of any or all of such routine litigation will be likely to have a material adverse effect on the Company's financial condition or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF STOCKHOLDERS - -------------------------------------------------------- None. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED - --------------------------------------------------------- STOCKHOLDER MATTERS ------------------- Since November 8, 1996, the Company's common stock has been traded on the Nasdaq National Market under the symbol INTD. US Order's common stock prices were reported for the period through November 7, 1996 and were traded on the Nasdaq National Market under the symbol USOR. Colonial Data's common stock prices are reported for the period through November 7, 1996. Subsequent to February 9, 1996, Colonial Data common stock was traded on the Nasdaq National Market under the symbol CDTX. Prior to February 9, 1996, Colonial Data common stock was traded on the American Stock Exchange. The table below sets forth the high and low quarterly sales prices for the common stock of US Order, Colonial Data and InteliData as reported in published financial sources for each quarter during the last two years: Price Range of Common Stock --------------------------------------------------------------------------------- US Order Colonial Data InteliData ------------------------- ------------------------ ---------------------- High Low High Low High Low ---- --- ---- --- ---- --- 1997 Fourth Quarter * * * * $3 15/16 $1 1/4 Third Quarter * * * * 5 3/8 2 3/4 Second Quarter * * * * 6 1/4 4 1/8 First Quarter * * * * 8 5/8 4 7/8 1996 Fourth Quarter $11 7/8 $8 1/4 $11 5/8 $8 3/8 10 7/8 6 Third Quarter 15 1/4 8 15/16 15 1/4 8 1/2 ** ** Second Quarter 22 1/2 13 23 5/8 14 7/8 ** ** First Quarter 24 1/4 16 3/4 25 1/4 15 7/8 ** ** * No trading market was available for US Order and Colonial Data after November 7, 1996. ** No established public trading market for InteliData common stock existed prior to November 8, 1996.
The Company has never declared or paid any cash dividends on its common stock. The Company currently intends to retain its future earnings, if any, to fund the development and growth of its business and, therefore, does not anticipate paying any cash dividends in the foreseeable future. Any future decision concerning the payment of dividends on the Company's common stock will depend upon the results of operations, financial condition and capital expenditure plans of the Company, as well as such other factors as the Board of Directors, in its sole discretion, may consider relevant. The number of stockholders of record at March 1, 1998 was 622, and does not include those stockholders who hold shares in street name accounts. ITEM 6. SELECTED FINANCIAL DATA - -------------------------------- INTELIDATA TECHNOLOGIES CORPORATION (1) SELECTED FINANCIAL DATA (IN THOUSANDS, EXCEPT PER SHARE DATA) Year Ended December 31, ------------------------------------------------------------------------------ 1997 1996 1995 1994 1993 ---------- ---------- ---------- ---------- ---------- RESULTS OF OPERATIONS: Revenues $ 60,309 $ 13,899 $ 4,186 $ 1,432 $ 905 Cost of revenues 43,514 10,448 2,470 1,013 908 Operating expenses 108,099 (2) 99,563 (2) 6,877 10,584 (2) 10,540 (4) ---------- ---------- ---------- ---------- ---------- Operating loss (91,304) (96,112) (5,161) (10,165) (10,543) Net income (loss) (90,094) (95,727) (4,718) 3,713 (3) (11,225) Preferred dividend requirement -- -- 681 1,895 1,042 ---------- ---------- ---------- ---------- ---------- Net income (loss) applicable to common shareholders $ (90,094) $ (95,727) $ (5,399) $ 1,818 $ (12,267) Basic income (loss) per common share(5) $ (2.85) $ (5.21) $ (0.50) $ 0.36 (6) $ (2.45) Basic weighted average shares outstanding(5) 31,574 18,370 10,772 5,000 (6) 5,000 FINANCIAL POSITION (as of December 31): Cash, cash equivalents and short-term investments $ 11,359 $ 39,062 $ 25,120 $ 2,568 $ 3,444 Total assets 54,401 143,746 40,252 4,637 7,694 Long-term obligations -- -- -- 4,833 4,231 Stockholders' equity (deficit) 37,069 124,289 37,733 (6,466) (5,849) (1) Results reflect the operations of US Order for the periods presented and operations of Braun Simmons since September 30, 1996 and Colonial Data since November 7, 1996. (2) Operating expenses for 1997 include $69,691,000 of unusual charges related to impairment of assets and restructuring charges. Operating expenses for 1996 include $77,214,000 of nonrecurring in-process research and development expenses related to the Mergers and Braun Simmons Acquisition. Operating expenses in 1994 include a $3.25 million payment to certain employees to cancel certain outstanding vested options in connection with the sale of the Company's bill pay operations to Visa. Visa required that all employees of the Company who became employees of Visa InterActive cancel their outstanding vested options to eliminate any potential conflicts of interest. As a result, the Company's shareholders and Board of Directors agreed to pay all active and full-time employees of the Company (excluding William F. Gorog, Chief Executive Officer and Chairman of the Board) an aggregate of $3.25 million for the cancellation of 675,334 of their outstanding and vested options with exercise prices ranging between $0.98 and $4.00 per share. Of the $3.25 million, approximately $2.1 million was paid to employees of the Company who became Visa InterActive employees as of August 1, 1994. (3) Includes gain of approximately $14.5 million on the sale of the Company's electronic banking and bill pay operations to Visa on August 1, 1994. (4) Operating expenses in 1993 include write-downs of terminals and terminal components of approximately $1.5 million. (5) All net income (loss) per common share data and weighted average shares outstanding data has been restated for SFAS 128, Earnings Per Share. (6) Diluted income per common share was $0.12 and diluted weighted average shares outstanding was 14,906,000.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL - ---------------------------------------------------------- CONDITION AND RESULTS OF OPERATIONS ----------------------------------- OVERVIEW InteliData Technologies Corporation ("InteliData" or the "Company"), was incorporated on August 23, 1996 under the Delaware General Corporation Law in order to effect the mergers ("Mergers") of US Order, Inc. ("US Order") and Colonial Data Technologies Corp. ("Colonial Data"). The Mergers were announced on August 5, 1996, when US Order and Colonial Data entered into an Agreement and Plan of Merger ("Merger Agreement"). On November 7, 1996, the Mergers were consummated with each share of outstanding US Order and Colonial Data common stock being exchanged for one share of InteliData common stock. Accounting for the Mergers was treated as a purchase of Colonial Data by US Order. Accordingly, the financial statements of the Company included herein reflect the results of US Order through November 7, 1996 and the consolidated results of US Order and Colonial Data thereafter. Effective September 30, 1996, US Order acquired the business of Braun, Simmons & Co., an Ohio corporation ("Braun Simmons"), for approximately $7 million consisting of cash and US Order common stock (and including US Order transaction costs), pursuant to a merger of Braun Simmons into US Order (the "Braun Simmons Acquisition"). Braun Simmons was an information engineering firm specializing in the development of home banking and electronic commerce solutions for financial institutions. The acquisition expands the Company's product line for both large and small financial institutions. The excess purchase price over the fair value of net assets acquired resulted in goodwill of $49,483,000 in connection with the Mergers, and $1,898,000 in connection with the Braun Simmons Acquisition which were being amortized on a straight-line basis over fifteen years and seven years, respectively. Based on rapid market and technological changes in 1997, the goodwill generated from these transactions was considered impaired and was written-off in the third quarter of 1997. The impairment was based on the excess of the carrying value of the assets over the assets' fair values. The fair value of the assets were generally determined as the estimates of future cash flows generated by the assets. In connection with the Mergers and the Braun Simmons Acquisition, the Company charged, as of the respective dates of such transactions, in-process research and development expenses of $72,300,000 for the Mergers and $4,914,000 for the Braun Simmons Acquisition, for purchased in-process technology that had not reached technological feasibility as of the respective dates of such transactions and which did not have alternative future uses. The business of the Company consists of the businesses previously conducted by US Order and Colonial Data. The Company develops and markets products and services for the telecommunications and financial services industries through its telecommunications and electronic commerce business divisions. The telecommunications division designs, develops and markets telecommunications products that support intelligent network services being developed and implemented by the regional Bell operating companies ("RBOCs") and other telephone companies ("telcos"). The Company has concentrated its product development and marketing efforts on products that support Caller ID and other emerging intelligent network services, including smart telephones which provide consumers call management features and the ability to access numerous network services and interactive applications via telephone. The Company currently offers a line of Caller ID adjunct units, smart telephones, small business telecommunications systems and high-end telecommunications equipment. The Company also repairs and refurbishes telecommunications products for commercial customers and provides other services that support the development and implementation of intelligent network services. The electronic commerce division develops and markets products and services to assist financial institutions in their home banking and electronic bill payment initiatives. The products are designed to assist consumers in accessing and transacting business with their banks and credit unions electronically, and to assist financial institutions in connecting to and transacting business with third parties, including data processors and billers. The services focus on consulting and maintenance agreements that support the Company's products. The Company has initiated a comprehensive process to evaluate its current business strategy, including customer relationships and market opportunities. This could result in restructuring charges in 1998. During the fourth quarter of 1997, the Company announced its intention to sell the interactive services division which was established to provide interactive applications for use on smart telephones and other small screen devices, such as alpha-numeric pagers, Personal Communication Systems ("PCS") devices and personal digital assistants ("PDAs"). The discontinued operations of the interactive services division are not considered to be material to the overall financial statements. RESULTS OF OPERATIONS - YEARS ENDED DECEMBER 31, 1997 AND 1996 The consummation of the Mergers on November 7, 1996 and the required accounting presentation of the historical financial statements had a significant impact on the results of operations for 1997 compared to 1996. Consolidated total revenues and all categories of expenses are significantly greater in 1997 than 1996 because 1997 results include a full year of operations for all businesses and 1996 results only include approximately two months of Colonial Data's operations and three months of Braun Simmons' operations. Revenues The Company's revenues were $60,309,000 in 1997 compared to $13,899,000 in 1996. Telecommunications revenues increased $45,416,000 to $56,358,000 in 1997 from $10,942,000 in 1996. Telecommunications revenues in 1997 consisted of $37,198,000 from Caller ID adjuncts and smart telephones, $8,306,000 from small business telephone equipment, $8,570,000 from the lease of Caller ID adjuncts and telephones and $2,284,000 from repair and other services. Contributing to the telecommunications revenues in 1997 were sales of $11,628,000 to the Company's direct marketing joint venture, Worldwide Telecom Partners, Inc. The joint venture was terminated in the third quarter of 1997. During the year ended December 31, 1997, the Company sold 1,398,500 Caller ID adjuncts, 72,137 telephones and 6,480 multi-line, small business systems. Telecommunications revenues for 1996 consisted of $7,938,000 from Caller ID adjuncts and smart telephones, $506,000 from small business telephone equipment, $1,838,000 from the lease of Caller ID adjuncts and telephones and $660,000 from product management, repair and other services. Contributing to the telecommunications revenues in 1996 were sales of $2,845,000 to Worldwide Telecom Partners, Inc. During 1997, the Company sold fewer units than originally anticipated because the Company did not participate in as many telco programs and promotional campaigns that sell high volumes of product as the Company and Colonial Data did prior to the Mergers in 1996. The Company intends to work aggressively to be a primary supplier and marketer for telco promotional campaigns in 1998. The electronic commerce division revenues increased $994,000 to $3,951,000 in 1997 from $2,957,000 in 1996. The primary reason for the increase was from revenues generated by the professional service and maintenance contracts associated with the Company's software sales. This increase was partially offset by the elimination of customer service support provided to Visa-member banks during the second half of 1997. The Company's customer support services were remarketed by Visa InterActive, Inc. ("Visa InterActive") to Visa member banks under the Company's reseller agreement with Visa InterActive. During 1997, the Company earned $1,041,000 by providing customer support services to the Visa-member banks, $1,040,000 from software and hardware sales, $868,000 from professional services and maintenance contracts for the Company's software programs, recognized $625,000 from deferred revenues related to the agreement between Visa and the Company for the Visa Bill Pay System royalties and earned $377,000 from monthly service fees. During 1996, the electronic commerce division earned revenues primarily from services derived from three sources: customer support services, monthly service fees and software and software related consulting fees. The Company recorded $1,203,000 from its customer support services, $561,000 from its monthly service fees and $1,193,000 from its software sales and consulting business during 1996. During 1997, the Company transitioned from providing primarily back-end support to financial institutions to selling software that assists financial institutions in processing customers who bank remotely, either from a personal computer or telephone. The Company expects that revenues generated in the electronic commerce division in 1998 will be a direct result of software sales and the related consulting business. Cost of Revenues and Gross Profit The Company's cost of revenues increased by $33,066,000 to $43,514,000 for 1997 compared to $10,448,000 in 1996. Telecommunications cost of revenues increased by $32,594,000 to $41,385,000 for 1997 compared to $8,791,000 for 1996. Contributing to the telecommunications cost of revenues for 1997 were $27,852,000 from the sale of Caller ID adjuncts and smart telephones; $7,299,000 from the sale of multi-line small business systems; $4,718,000 from leasing Caller ID adjuncts and telephones; and $1,516,000 from the repair and services business. Gross profit for the telecommunications division increased $12,822,000 to $14,973,000 for 1997 compared to $2,151,000 for 1996. Gross profit margin for the telecommunications division increased to 27% for 1997 compared to 20% for 1996. The increase is primarily related to the Mergers and the change in the product mix and increased margins on the US West lease base, which earned 45% gross profit margins in 1997 compared to 40% gross profit margins in 1996. Gross profit margins for the year ended December 31, 1997 from Caller ID adjunct and telephone sales, and small business telephone systems sales were 27% and 18%, respectively. Cost of revenues for the electronic commerce division increased $472,000 to $2,129,000 for 1997 compared to $1,657,000 for 1996. The increase in cost of revenues is a direct result of the increase in revenues. Gross profit margins for the electronic commerce division increased two percentage points to 46% for 1997 compared to 44% for 1996. The increase in gross profit margins is attributed to a change in the product and services offered between the two periods. During 1997, the Company experienced declining gross margins in Caller ID products because the market matured and competition increased. The Company expects its gross margin percentages to vary in future periods based upon the revenue mix between product sales and services revenues and based upon the composition of services revenues earned during the period. General and Administrative General and administrative expenses decreased $1,295,000 to $14,826,000 in 1997 from $16,121,000 in 1996. The decrease was primarily attributable to expenses related to losses in the amount of $2,801,000 related to the Company's investment in Home Financial Network, Inc. ("HFN"), a development stage personal computer software company, and the associated goodwill. The Company believed its investment in HFN was impaired based on its history of losses. In 1997, $1,267,000 of losses for the HFN investment were incurred along with increased expenses associated with employing certain general and administrative personnel for a full year in 1997 and increased litigation expenses during 1997. Also contributing to the difference were the amortization of intangible assets and nonrecurring charges for certain customer service operations. In the future, the Company expects that aggregate recurring general and administrative expenses will decrease as the Company aggressively pursues options to reduce fixed overhead costs. During 1998, the Company expects that general and administrative expenses will decrease due to implementation of measures to reduce overhead, except as the Company upgrades its systems and operations in anticipation of the potential for increased business. Selling and Marketing Selling and marketing expenses increased $11,880,000 to $13,891,000 in 1997 from $2,011,000 in 1996. Telecommunications division selling and marketing expenses aggregated $11,758,000 for the year ended December 31, 1997. Contributing to the selling and marketing expenses were $3,775,000 for the Company's labor force, travel and professional services, $2,938,000 for advertising, sales promotion, and trade shows, $2,162,000 to support customer service for product support and facilitating sales orders and, $1,126,000 for royalties. The increase from the prior year is primarily related to the introduction of new products to market including the introduction of two new small business telephone systems at retail and through the distributor channel and a summer campaign to sell the Company's smart telephones. Electronic commerce division selling and marketing expenses for the year ended December 31, 1997 aggregated $2,133,000. Contributing to the selling and marketing expenses were $1,704,000 for the Company's labor force, travel and professional services and $130,000 for advertising and trade shows. The Company expects its selling, advertising and promotion expenses will decrease substantially in 1998 due to cost saving factors being implemented by the Company's management. Research and Development Research and development costs increased $7,042,000 to $9,691,000 in 1997 compared to $2,649,000 in 1996. The Company has been actively engaged in research and development since its inception and expects that these activities will be essential to the operations of the Company in the future. Research and development related expenses for the telecommunications and electronic commerce divisions were $3,477,000 and $4,602,000, respectively. In addition, the Company invested $1,612,000 in research and development efforts for interactive service applications. Research and development expenses for the telecommunications division were largely attributable to developing, designing and testing higher-end smart telephones and to lower the cost of Caller ID adjunct units. The electronic commerce division primarily invested research and development expenses in writing the Interpose Financial Engine for the Open Financial Exchange ("OFX") standard. Interpose provides a turnkey software system to allow financial institutions to: integrate multiple delivery channels, including the Internet, PC software and the telephone; connect directly to the customer without the use of a third party processor; and integrate multiple "back end" processors for bill payment, credit card and mortgage processing, brokerage, and other products. Unusual Charges For the year ended December 31, 1997, the Company announced a strategic repositioning of the Company's telecommunications division based on recent events in its marketplace and a corporate restructuring. In connection with this repositioning and corporate restructuring, the Company's management evaluated its financial position and determined that it would be appropriate to charge to operations the remaining unamortized costs of intangible assets due to impairment, adjust inventory carrying amounts to the lower of cost or market, and reflect certain restructuring charges, including charges for separation agreements with employees and charges associated with the termination of a joint venture agreement. Additionally, the Company adjusted the carrying value of a receivable from the sale of stock for an advertising credit based on the Company's expected use of the credit. Total unusual charges for the year aggregated $69,691,000 which includes: $49,812,000 for the impairment of intangible assets; $11,333,000 for inventories and commitments; $2,437,000 for restructuring charges and separation agreements; $3,653,000 for assets relating to the Worldwide Telecom joint venture; and $2,456,000 for impairment of the advertising credits. The impairment was measured based on the excess of the net carrying value of the assets over the assets' fair values. The fair value of the assets were generally determined based on estimates of future cash flows to be generated by the assets. The charges related to the joint venture are associated with the termination of the joint venture by the Company in the third quarter of 1997. For the year ended December 31, 1996, the Company recorded a provision for corporate restructuring during the fourth quarter of 1996 of $1,568,000. This amount consists of $1,323,000 in facilities consolidations, $175,000 in relocation expenses for certain employees and $70,000 for the write-down of processing equipment. Additionally, in connection with the Braun Simmons Acquisition and the Mergers in September and November 1996, respectively, the Company charged in-process research and development expenses for purchased in-process technology that had not reached technological feasibility as of the date of the Mergers and the Braun Simmons Acquisition and did not have alternative future uses. Amounts charged to in-process research and development were based on independent appraisals and totaled $4,914,000 and $72,300,000 for the Braun Simmons Acquisition and the Mergers, respectively. Other Income, Net Other income, net increased $861,000 to $1,271,000 in 1997 compared to $410,000 in 1996. The increase is largely associated with the Company's investment losses recorded during 1996 for the Company's proportionate share of losses of HFN and the amortization of the excess of the purchase price over the Company's share of the equity in net assets of HFN. Income Taxes Income taxes increased to $61,000 in 1997 from $25,000 in 1996 based primarily on state income taxes incurred in connection with the Company's operations. At December 31, 1997, the Company had net operating loss carryforwards for federal income tax purposes of approximately $50 million which expire by 2012. However, use of these net operating losses in future years may be limited under applicable tax laws and regulations as a result of the Mergers and the Braun Simmons acquisition. Net Loss and Weighted Average Shares As a result of the foregoing factors, basic loss applicable to common shareholders decreased to $90,094,000 in 1997 from $95,727,000 in 1996. The basic weighted average shares increased to 31,574,000 in 1997 from 18,370,000 in 1996. The increase in basic weighted average shares resulted primarily from the shares issued in connection with the Mergers. The basic loss per common share decreased to $2.85 in 1997 from $5.21 in 1996. RESULTS OF OPERATIONS - YEARS ENDED DECEMBER 31, 1996 AND 1995 The consummation of the Mergers on November 7, 1996 and the required accounting presentation of the historical financial statements had a significant impact on the results of operations for 1996 compared to 1995. Consolidated total revenues and all categories of expenses are significantly greater in 1996 than 1995 because 1996 results include approximately two months of Colonial Data's operations and three months of Braun Simmons' operations and 1995 results do not include any of Colonial Data's and Braun Simmons' operations. Revenues The Company's revenues were $13,899,000 in 1996 compared to $4,186,000 in 1995. Telecommunications revenues increased $9,125,000 to $10,942,000 in 1996 from $1,817,000 in 1995. Telecommunications revenues in 1996 consisted of $7,938,000 from Caller ID adjuncts and smart telephones, $506,000 from small business telephone equipment, $1,838,000 from the lease of Caller ID adjuncts and telephones and $660,000 from product management, repair and other services. Contributing to the telecommunications revenues in 1996 were sales of $2,845,000 to Worldwide Telecom Partners, Inc. Telecommunication revenues in 1995 were generated primarily from the sale and supporting services for smart telephones developed by the Company. Electronic commerce division revenues increased by $588,000 to $2,957,000 in 1996 from $2,369,000 in 1995. The increase is primarily attributed to the increase in customer service support provided to Visa member banks. Service fees in 1996 and 1995 were generated primarily from three sources: customer support services, monthly service fees, and nonrecurring development fees for smart telephone applications. The Company's customer support services were remarketed by Visa InterActive, Inc. ("Visa InterActive") to Visa member banks under the Company's reseller agreement with Visa InterActive. Cost of Revenues and Gross Profit The Company's cost of revenues increased by $7,978,000 to $10,448,000 for 1996 compared to $2,470,000 in 1995. Telecommunications cost of revenues contributed 84% to the total cost of revenues for 1996. Telecommunications cost of revenues consisted of $7,045,000 from Caller ID products and smart telephones, $426,000 from small business equipment, $1,105,000 from the US West Caller ID lease base and $215,000 from the repair and service business. As a result of the Mergers, and change in product mix in 1996, gross margins related to telecommunications revenues were 20% in 1996 compared to 4% in 1995. Gross margins from the Company's leasing activities in the US West lease base were approximately 40% for 1996. As a result of the Braun Simmons Acquisition, gross margins related to electronic commerce revenues decreased to 44% from 69%. The combined operations result in a decrease in the Company's overall gross margin to 25% in 1996 from 41% in 1995. General and Administrative General and administrative expenses increased $10,338,000 to $16,121,000 in 1996 from $5,783,000 during the comparable period in 1995. The increase was primarily attributable to expenses related to the write-off in the fourth quarter of $2,801,000 related to the Company's investment in Home Financial Network, Inc. ("HFN"), a development stage personal computer software company, and the associated goodwill. The Company believes its investment in HFN was impaired based on its history of losses. Also contributing to the increase was rent expense, employee related expenses for increases in personnel, amortization of intangible assets and nonrecurring charges for certain customer service operations. Selling and Marketing Selling and marketing expenses increased $1,984,000 to $2,011,000 in 1996 from $27,000 in 1995. The increase is attributed primarily to selling expenses of $914,000 for the telecommunications division and selling expenses of $714,000 for the interactive services division relating to an increase in sales personnel and a substantial increase in advertising and marketing for smart telephones which were introduced in retail stores and outlets in the fourth quarter of 1996. Research and Development Research and development costs were $2,649,000 in 1996 compared to $1,067,000 in 1995. The Company has been actively engaged in research and development since its inception and expects that these activities will be essential to the operations of the Company in the future. Research and development related expenses for 1996 were largely attributable to developing, designing and testing the Company's next generation smart telephone, the Telesmart 4000/Intelifone(TM) smart telephone, and electronic bill payment software for the electronic commerce division. Unusual Charges The Company recorded a provision for corporate restructuring during the fourth quarter of 1996 of $1,568,000. This amount consists of $1,323,000 in facilities consolidations, $175,000 in relocation expenses for certain employees and $70,000 for the write-down of processing equipment. In connection with the Braun Simmons Acquisition and the Mergers in September and November 1996, respectively, the Company charged in-process research and development expenses for purchased in-process technology that had not reached technological feasibility as of the date of the Mergers and the Braun Simmons Acquisition and did not have alternative future uses. Amounts charged to in-process research and development were based on independent appraisals and totaled $4,914,000 and $72,300,000 for the Braun Simmons Acquisition and the Mergers, respectively. Other Income, Net Other income decreased $33,000 or 7% to $410,000 in 1996 from $443,000 in 1995. The decrease is largely associated with recognizing the Company's proportionate share of losses of HFN and the amortization of the excess of the purchase price over the Company's share of the equity in net assets of HFN. This decrease was offset in part by an increase in interest income attributed to the Company investing funds raised in its June 1995 initial public offering. Income Taxes Income taxes increased to $25,000 in 1996 from $0 in 1995 based primarily on state income taxes incurred in connection with the Company's operations. At December 31, 1996, the Company had net operating loss carryforwards for federal income tax purposes of approximately $38 million which expire by 2011. However, use of these net operating losses in future years may be limited under applicable tax laws and regulations as a result of the Mergers and the Braun Simmons Acquisition. Net Loss and Weighted Average Shares As a result of the foregoing factors, basic loss applicable to common shareholders increased to $95,727,000 in 1996 from $5,399,000 in 1995. The basic weighted average shares increased to 18,370,000 in 1996 from 10,772,000 in 1995. The increase resulted primarily from the shares issued in connection with the Mergers. RESULTS OF OPERATIONS - QUARTERS ENDED DECEMBER 31, 1997, 1996 AND 1995 (UNAUDITED) The following table sets forth selected consolidated statement of operations data for the three months ended December 31, 1997, 1996 and 1995 (in thousands): 1997 1996 1995 ---------- ---------- ---------- Revenues $ 10,174 $ 10,962 $ 1,286 Cost of revenues 7,809 8,474 229 ---------- ---------- ---------- Gross profit 2,365 2,488 1,057 Operating expenses 9,429 85,022 2,492 Other income (expense) (1,180) 525 164 ---------- ---------- ---------- Net loss $ (8,244) $ (82,009) $ (1,271) ========== ========== ========== The Company's revenues decreased 7% to $10,174,000 in 1997 compared to an increase of 752% to $10,962,000 for 1996 from $1,286,000 for 1995. The decrease from 1996 to 1997 is the result of fewer telecommunications programs and telco promotional campaigns that contribute to larger sales volumes. The increase from 1995 to 1996 is attributed to the operations of the telecommunications division subsequent to the Mergers. Revenues from the sale or lease of Caller ID products represented $6,754,000 or 66% of the total revenues for the fourth quarter of 1997. Revenues from the sale or lease of Caller ID products represented $7,793,000 or 71% of the total revenues for the fourth quarter of 1996. The cost of revenues represented 77%, 77% and 18% of total revenues for the quarters ended December 31, 1997, 1996 and 1995, respectively. Such results yielded gross profit margins of 23%, 23% and 82% for the same periods. The decrease in margins between 1995 and 1996 is attributed to the product mix. In 1995, the Company earned most of its revenues from services and software programs with low direct costs of revenues. Most product sales in 1996 were for lower-end model Caller ID adjuncts which yield a lower margin. The increase in recurring operating expenses is largely attributed to the cost of general and administrative labor, litigation expenses and selling and marketing expenses. Fourth quarter 1997 legal expenses associated with the defense and settlement of a patent claim and associated with a settlement agreement with a joint venture aggregated approximately $1 million. Fourth quarter 1997 other expenses include the impairment of a long-term investment in HFN of $1,267,000 representing a full write-off of the investment. Nonrecurring fourth quarter operating expenses, recorded in 1996, included in-process research and development costs, aggregating $77,214,000 that were expensed in connection with the Mergers and the Braun Simmons Acquisition. Other operating expenses in 1996 include nonrecurring charges for $4,369,000 for restructuring costs and impairment of a long-term investment in HFN. The remaining increase is attributable to operational costs associated with additional personnel and operating facilities in Connecticut, Ohio and Virginia as a result of the Company's growth and the Mergers and the Braun Simmons Acquisition. LIQUIDITY AND CAPITAL RESOURCES During 1997, the Company's cash, cash equivalents and short-term investments decreased by $27,703,000 resulting from funding operating losses and accounts receivable increases and acquiring inventories, capital equipment and treasury stock. At December 31, 1997, the Company had $11,359,000 in cash, cash equivalents and short-term investments. To improve the yield on its cash and equivalent holdings, in 1997, the Company invested in financial instruments that are diversified among high credit quality securities. The investments are reported at cost, which approximates market value, and are classified as either short-term investments or cash equivalents. Additionally, at December 31, 1997, the Company had working capital of $32,364,000 with no long-term debt. The Company's total assets exceeded total liabilities by $37,069,000. The Company's cash requirements for operating, investing and financing activities in 1997 were financed primarily by cash acquired in the Mergers in the fourth quarter of 1996. The Company's principal needs for cash in 1997 were for funding operating losses, investments in property, plant and equipment and to fund working capital, primarily related to inventories and accounts receivable. The Company funded an increase in accounts receivable and inventories of $4,054,000 and $5,954,000, respectively for the year ended December 31, 1997. The increase in accounts receivable is attributed to the timing of receipts for products shipped relating to the telecommunications division. The increase in inventories was primarily associated with two new lines of small business systems that were introduced to the retail and distributor channels in the fourth quarter of 1997. The Company's cash position benefited from a decrease in prepaid expenses related to prepaid insurance and deposits of $1,897,000. The Company increased its total liabilities, other than borrowings and net of noncash activities by $184,000 from the prior year. Net cash provided by investing activities aggregated $1,691,000 during 1997, primarily from the sale of short-term investments in the amount of $3,114,000, offset in part by the purchase of capital equipment in the amount of $1,423,000. Net cash used in financing activities aggregated $2,431,000 during 1997, primarily from the acquisition of treasury stock in the amount of $2,064,000 and the payment of short-term borrowings of $500,000, offset in part by proceeds from the issuance of common stock in the amount of $133,000. The Company maintained a credit agreement aggregating $15,000,000 for cash advances and letters of credit. As of December 31, 1997, the Company had $1,500,000 outstanding under this line of credit and $6,469,000 outstanding in letters of credit. Since December 31, 1997, the Company has paid all outstanding amounts. As of December 31, 1997, the Company did not meet the tangible net worth and the debt service coverage covenants with its bank. Subsequently, the Company received a waiver for the covenant violations from the bank. The Company's primary needs for cash in the future are for investments in product development, working capital, the financing of operations, strategic ventures, potential acquisitions, capital expenditures and the upgrade of the Company's systems and operations. In order to meet the Company's needs for cash over the next twelve months, the Company will utilize existing cash and seek financing from a financial institution. Additionally, the Company may utilize funds it expects to generate from operations in the second half of 1998. INFLATION The Company believes that inflation has not had a material effect on the Company's sales and revenue during the past three years. YEAR 2000 COMPLIANCE The inability of computers, software and other equipment utilizing microprocessors to recognize and properly process data fields containing a 2 digit year is commonly referred to as the Year 2000 Compliance issue. As the year 2000 approaches, such systems may be unable to accurately process certain date-based information. The Company has identified all significant applications that will require modification to ensure Year 2000 Compliance. Internal and external resources are being used to make the required modifications and test Year 2000 Compliance. The modification process of all significant applications is substantially complete. The Company plans on completing the testing process of all significant applications by December 31, 1998. In addition, the Company has communicated with others with whom it does significant business to determine their Year 2000 Compliance readiness and the extent to which the Company is vulnerable to any third party Year 2000 issues. However, there can be no guarantee that the systems of other companies on which the Company's systems rely will be timely converted, or that a failure to convert by another company, or a conversion that is incompatible with the Company's systems, would not have a material adverse effect on the Company. The total cost to the Company of these Year 2000 Compliance activities has not been and is not anticipated to be material to its financial position or results of operations in any given year. These costs and the date on which the Company plans to complete the Year 2000 modification and testing processes are based on management's best estimates, which were derived utilizing numerous assumptions of future events including the continued availability of certain resources, third party modification plans and other factors. However, there can be no guarantee that these estimates will be achieved and actual results could differ from those plans. RECENT ACCOUNTING PRONOUNCEMENTS Statement of Financial Accounting Standards No. 130 ("SFAS 130"), "Reporting Comprehensive Income", was issued by the Financial Accounting Standards Board in June 1997. This Statement requires that all items that are required to be recognized under accounting standards as components of comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. The Company will adopt SFAS 130 beginning January 1, 1998. Statement of Financial Accounting Standards No. 131 ("SFAS 131"), "Disclosures about Segments of an Enterprise and Related Information", was issued by the Financial Accounting Standards Board in June 1997. This Statement establishes standards for reporting information about operating segments in annual financial statements and requires reporting of selected information about operating segments in interim financial reports issued to stockholders. It also establishes standards for related disclosures about products and services, geographic areas and major customers. The Company is in the process of finalizing its determination of its reportable segments under SFAS 131 and will adopt SFAS 131 for the year ending December 31, 1998. CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 The Company desires to take advantage of the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995. The Company wishes to caution readers that the following important factors, among others, in some cases have affected the Company's actual results, and could cause the Company's actual results for 1998 and beyond, to differ materially from those expressed in any forward-looking statements made by, or on behalf of, the Company. Successful Implementation of Business Strategy During 1997, as the market for telecommunications products and services changed, the Company reorganized its telecommunications business in an effort to streamline its operations and focus its telecommunications business on providing customer acquisition services to telcos and on developing a market for small office/home office (SOHO) products. The Company also continues to conduct its electronic commerce business, selling software to banks. There can be no assurances that the Company will be able to successfully implement this business strategy or effectively fund and grow two distinctly separate lines of business. Developing Marketplace Electronic commerce and telecommunications are developing markets. The Company's future growth and profitability will depend, in part, upon consumer acceptance of electronic home banking and telecommunications technologies. Even if these markets experience substantial growth, there can be no assurance that the Company's products and services will be commercially successful or benefit from such growth. Much of the Company's success in the home banking market depends on the financial institutions' success in marketing to the consumer. Much of the Company's success in the telecommunications market depends on the Company's ability to meet design specifications and delivery requirements for its products and services. There can be no assurance of the timing of introduction of, necessary regulatory approvals for, or market acceptance of these services and applications. Fluctuations in Operating Results The Company may experience fluctuations in quarterly operating results due to a variety of factors, some of which are beyond the Company's control. These include the size and timing of customer orders, changes in the Company's pricing policies or those of its competitors, new product introductions or enhancements by competitors, delays in the introduction of new products or product enhancements by the Company or by its competitors, customer order deferrals in anticipation of upgrades and new products, market acceptance of new products, the timing and nature of sales, marketing, and research and development expenses by the Company and its competitors, the timing of programs offering Caller ID or other intelligent network services by a telco, disruptions in sources of supply, the effects of regulation on Caller ID and other intelligent network services, the timing and extent of promotional activities by a telco, changes in service charges by a telco, other changes in operating expenses, personnel changes and general economic conditions. Additionally, certain RBOCs have recently merged and the Company is unable to assess the future effect on the Company of these mergers and of other possible consolidations in the telecommunications industry. No assurance can be given that such quarterly variations will not occur in the future and, accordingly, the results of any one quarter may not be indicative of the operating results for future quarters. Reliance on Caller ID Revenues A substantial majority of the Company's revenues are derived from sales and leases of its Caller ID products. Caller ID is a mature market and the Company has experienced declining gross margins from increased competition. The sale or lease of these products is directly linked to the implementation and promotion of Caller ID service by telcos. The timing of such implementation may be affected by government regulation, by changes in the telecommunications industry resulting from changes in the regulatory and competitive environment, by switch and software upgrades and by other factors. There can be no assurance that telcos will continue to introduce and promote this service successfully or that it will gain widespread market acceptance. Delays in the introduction of Caller ID service in local markets or failure of this service to gain widespread market acceptance would materially and adversely affect the Company's business, operating results and financial condition. Concentration of Distribution of Products and Services The Company sells its telecommunications products and services to telcos, individual telephone subscribers, other equipment manufacturers on a private label basis ("private label customers") and retail chains. In addition, the Company leases its products to individual telco subscribers. Sales and leases to individual telco subscribers are largely dependent on direct fulfillment distribution arrangements with certain RBOCs and other telcos. Since the Company views the telcos with which it maintains direct fulfillment relationships as its customers, it considers its customer base to be highly concentrated. The Company's current telco fulfillment arrangements are not exclusive and may be terminated by either party. The loss of any one or more of the Company's major customers or the termination of its distribution arrangements with any telco or the failure to be selected for significant orders or programs by a telco could materially and adversely affect the Company's business, operating results, and financial condition. In addition, consolidation in the telecommunications industry or changes in the telecommunications regulatory environment could result in the loss of such customers or business. InteliData Common Stock Owned by WorldCorp As of December 31, 1997, WorldCorp beneficially owned approximately 29% of the outstanding common stock of the Company. WorldCorp is highly leveraged, and therefore requires substantial funds to meet debt service requirements each year. As a result of WorldCorp's cash requirements, it may be required to sell shares of the Company's common stock from time to time and such sales, or the threat of such sales, could have a material adverse effect on the market price for the Company's common stock. In addition, the Company's Board of Directors has seven members, three of whom also serve on the Board of Directors of WorldCorp. As a result of membership on the Company's Board and stock ownership, WorldCorp may have a significant influence on the decisions made by the Company. Technological Considerations The Company's business activities are concentrated in fields characterized by rapid and significant technological advances. There can be no assurance that the Company will remain competitive technologically or that the Company's products, processes or services will continue to be reflective of such advances. Failure to introduce new products or product enhancements that achieve market acceptance on a timely basis could materially and adversely affect the Company's business, operating results and financial condition. There can be no assurance that the Company will not encounter unanticipated technical, marketing or other problems or delays relating to new products, features or services which the Company has recently introduced or which it may introduce in the future. Moreover, there can be no assurance that the Company's new products, features or services will be successful, that the introduction of new products, features or services by the Company's competitors will not materially and adversely affect the sales of the Company's existing products or that the Company will be able to adapt to future changes in the telecommunications industry. Most of the Company's competitors and potential competitors have significantly greater financial, technological and research and development resources than the Company. Dependence on Foreign Production The Company's Caller ID units and certain other products, are manufactured by companies with facilities in Hong Kong, Taiwan, and the People's Republic of China. These facilities are supplemented, in part, by other manufacturers in Asia for certain smart telephone and small business system products and by limited manufacturing facilities in Connecticut. The availability or cost of these telecommunications products may be adversely affected by political, economic or labor conditions in Hong Kong, Taiwan or the People's Republic of China, including the 1997 return of Hong Kong to China, and by fluctuations in currency exchange rates. In addition, a change in the tariff structure or other trade policies of the United States or countries from which InteliData will import products could adversely affect InteliData's foreign manufacturing strategies. Competition Telecommunications ------------------ The market for the Company's products is highly competitive and subject to increased competition resulting from rapid technological change as well as resulting from changes in the telecommunications regulatory environment, telecommunications industry consolidation and the emergence of new market entrants. At present, the Company's principal competitors are CIDCO, Lucent, and Northern Telecom. The Company's Caller ID products also compete with Caller ID adjuncts and telephones offered by Panasonic, Sony, Thomson, TT Systems and US Electronics. The Company expects competition in the markets for its telecommunications products and services to increase in the future and expects competition from existing and new competitors, possibly including RBOCs, other telcos or other current customers, as well as from network switch-based services and from the increased application of cellular technology. The Company's primary current and potential competitors in the market for its telecommunications products and services have substantially greater financial, marketing and technical resources than the Company. Competition could materially and adversely affect the Company's results of operations through price reductions and loss of market share. The Company competes with a large number of competitors for its repair services and other services supporting the development and implementation of intelligent network services. Several of the Company's competitors in the market for such services have substantially greater financial, marketing and technological resources than the Company. There can be no assurance that the Company will be able to continue to compete successfully against its existing competitors or that it will be able to compete successfully against new competitors. Electronic Commerce ------------------- The market for interactive products and services is highly competitive and subject to rapid innovation and technological change, shifting consumer preferences and frequent new product introductions. The Company's home banking products and services compete with services offered by a number of competitors and competition may intensify as a result of new market entrants. Banks have developed home banking products for their own customers and, in the future, may offer these services to other banks. Non-banks also may develop home banking products to offer to banks. Computer software and data processing companies also offer home banking services. The Company expects that competition in these areas will increase in the near future. Dependence on Key Employees The Company is highly dependent on certain key executive officers and technical employees to manage the operations and business of the Company as well as to implement the business plans of the Company on an ongoing basis. The loss of any such key employees could have an adverse impact on the future operations of the Company. Regulation The Telecommunications Act of 1996 and regulations or orders promulgated thereunder may result in or accelerate changes in various aspects of the telecommunications industry, including the competitive environment, the delivery and pricing of various telecommunications products and services and possible consolidation. Although the Company is unable to predict what effect, if any, the Telecommunications Act of 1996 or other regulatory developments may have upon the telecommunications industry or the Company's business, any such effects could have a material adverse impact on the future operations of the Company. In the United States, Caller ID and other intelligent network services are subject to federal and state regulation. Caller ID and other intelligent network services may in the future be subject to further regulation by the federal government, state public utility commissions and other regulatory authorities, as well as court challenges, including possible challenges due to protests from special interest groups that object to such services on the basis of privacy concerns. A series of FCC orders effective December 1, 1995, require all United States telephone service providers with Signaling System 7 switching architecture to transmit to each other without charge Caller ID number information on interstate calls within the United States (except for public pay phones, hotel and motel lines, and party lines). The FCC's orders also require that by March 28, 1999, telcos that offer Caller ID service must provide to their telephone subscribers without charge per-call blocking and unblocking mechanisms to block and unblock the transmission of their Caller ID information on interstate calls and must inform subscribers that their telephone numbers may be identified to a called party and how to use these blocking and unblocking capabilities. Volatility of Stock Price The market price of the Company's stock has experienced significant volatility. The stock market has experienced volatility that has particularly affected the market prices of equity securities of many high technology and developmental stage companies and that has often been unrelated to the operating performance of such companies. Factors such as announcements of the introduction of new products or services by the Company or its competitors, market conditions in the banking, telecommunications and other emerging growth company sectors and rumors relating to the Company or its competitors may have a significant impact on the market price of the Company's stock. Limited Proprietary Protection The Company possesses limited patent or registered intellectual property rights with respect to its technology. The Company depends in part upon its proprietary technology and know-how to differentiate its products from those of its competitors and works independently and from time to time with third parties with respect to the design and engineering of its own products. The Company also relies on a combination of contractual rights and trade secret laws to protect its proprietary technology. There can be no assurance, however, that the Company will be able to protect its technology or successfully develop new technology or gain access to such technology or that third parties will not be able to develop similar technology independently or that competitors will not obtain unauthorized access to the Company's proprietary technology, that third parties will not misuse the technology to which the Company has granted access, or that the Company's contractual or legal remedies will be sufficient to protect the Company's interests in its proprietary technology. Certain of Lucent's Caller ID patents are licensed by Lucent to the Company and others, including the Company's competitors. If the Lucent license were terminated and the Company were unable to negotiate a new patent license agreement with Lucent, the Company would no longer be authorized to manufacture or sell Caller ID products in the United States other than to the RBOCs and to Lucent, and the Company's business would be materially and adversely affected. Limited Sources of Supply The key components used in the Company's products are currently being purchased from multiple sources, except for its application specific integrated circuit ("ASIC") chips, which are purchased from a single source. Although the Company believes it could develop other sources for each of the components for its products, the process could take several months, and the inability or refusal of any such source to continue to supply components could have a material adverse effect on the Company pending the development of an alternative source. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA - ----------------------------------------------------- INDEX TO CONSOLIDATED FINANCIAL STATEMENTS Page Consolidated Financial Statements Consolidated Balance Sheets as of December 31, 1997 and 1996............39 Consolidated Statements of Operations for the Years Ended December 31, 1997, 1996 and 1995......................................40 Consolidated Statements of Stockholders' Equity (Deficit) for the Years Ended December 31, 1997, 1996 and 1995............................41 Consolidated Statements of Cash Flows for the Years Ended December 31, 1997, 1996 and 1995......................................42 Notes to Consolidated Financial Statements for the Years Ended December 31, 1997, 1996 and 1995......................................43 Independent Auditors' Reports.................................................63 INTELIDATA TECHNOLOGIES CORPORATION CONSOLIDATED BALANCE SHEETS DECEMBER 31, 1997 AND 1996 (in thousands, except share data) 1997 1996 ------------ ------------ ASSETS CURRENT ASSETS Cash and cash equivalents $ 2,055 $ 26,644 Short-term investments 9,304 12,418 Accounts receivable, net of allowances of $5,679 in 1997 and $1,788 in 1996 (Notes 14 and 16) 13,088 12,925 Inventories (Notes 5 and 16) 23,020 28,420 Prepaid expenses and other current assets 354 2,582 ------------ ------------ Total current assets 47,821 82,989 NONCURRENT ASSETS Costs in excess of net assets acquired (Note 3) -- 50,061 Property, plant and equipment, net (Note 6) 6,249 9,143 Other assets 331 1,553 ------------ ------------ TOTAL ASSETS $ 54,401 $ 143,746 ============ ============ LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES Accounts payable $ 3,659 $ 4,684 Accrued expenses and other liabilities (Note 7) 7,527 12,380 Deferred revenues (Note 2) 2,771 393 Short-term borrowings (Note 8) 1,500 2,000 ------------ ------------ Total current liabilities 15,457 19,457 NONCURRENT LIABILITIES Deferred revenues (Note 2) 1,875 -- ------------ ------------ TOTAL LIABILITIES 17,332 19,457 COMMITMENTS AND CONTINGENCIES (Note 15) STOCKHOLDERS' EQUITY (Note 10) Preferred stock, $0.001 par value; authorized 5,000,000 shares; no shares issued and outstanding -- -- Common stock, $0.001 par value; authorized 60,000,000 shares; issued 31,862,449 shares in 1997 and 31,816,693 shares in 1996; outstanding 31,180,949 shares in 1997 and 31,816,693 shares in 1996 32 32 Additional paid-in capital 245,699 243,757 Treasury stock, at cost (2,064) -- Receivable from sale of stock -- (2,456) Deferred compensation (18) (133) Unrealized gain on investments 425 -- Accumulated deficit (207,005) (116,911) ------------ ------------- TOTAL STOCKHOLDERS' EQUITY 37,069 124,289 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 54,401 $ 143,746 ============ ============ See accompanying notes to consolidated financial statements.
INTELIDATA TECHNOLOGIES CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995 (in thousands, except per share data) 1997 1996 1995 ----------- ----------- ----------- Revenues Telecommunications $ 56,358 $ 10,942 $ 1,817 Electronic commerce 3,951 2,957 2,369 ----------- ----------- ----------- Total revenues 60,309 13,899 4,186 ----------- ----------- ----------- Cost of revenues Telecommunications 41,385 8,791 1,747 Electronic commerce 2,129 1,657 723 ----------- ----------- ----------- Total cost of revenues 43,514 10,448 2,470 ----------- ----------- ----------- Gross profit 16,795 3,451 1,716 Operating expenses (Notes 3 and 9) General and administrative 14,826 16,121 5,783 Selling and marketing 13,891 2,011 27 Research and development 9,691 2,649 1,067 Unusual charges (Note 11) 69,691 78,782 -- ----------- ----------- ----------- Total operating expenses 108,099 99,563 6,877 ----------- ----------- ----------- Operating loss (91,304) (96,112) (5,161) ----------- ----------- ----------- Other income (expense) Interest, net 1,271 1,445 684 Other, net -- (1,035) (241) ----------- ----------- ----------- Total other income, net 1,271 410 443 ----------- ----------- ----------- Loss before income taxes (90,033) (95,702) (4,718) Income taxes (Note 13) 61 25 -- ----------- ----------- ----------- Net loss (90,094) (95,727) (4,718) Preferred dividend requirement (Note 10) -- -- (681) ----------- ----------- ----------- Net loss applicable to common shareholders $ (90,094) $ (95,727) $ (5,399) =========== =========== =========== Basic loss per common share $ (2.85) $ (5.21) $ (0.50) =========== =========== =========== Basic weighted average shares 31,574 18,370 10,772 =========== =========== =========== See accompanying notes to consolidated financial statements.
INTELIDATA TECHNOLOGIES CORPORATION CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995 (in thousands) Series A Series C Convertible Convertible Addit- Recei- Unreal- Preferred Preferred Common ional vable Defer- ized Stock Stock Stock Paid- Trea- from red Gain on Accum- ------------- ------------- ------------ in sury Sale Compen- Invest- ulated Shares Amount Shares Amount Shares Amount Capital Stock of Stock sation ments Deficit Total ------ ------ ------ ------ ------ ------ ------- ------- -------- ------- ------- ---------- --------- Balance at December 31, 1994 5,204 $ 5 1,148 $ 1 5,121 $ 5 $12,489 $ -- $(2,500) $ -- -- $ (16,466) $ (6,466) Sale of common stock in public offering, net -- -- -- -- 3,062 3 41,643 -- -- -- -- -- 41,646 Conversion of preferred stock to common stock (5,204) (5) (1,148) (1) 6,352 6 -- -- -- -- -- -- -- Issuance of common stock: Long-term investment -- -- -- -- 230 -- 3,392 -- -- -- -- -- 3,392 Investment in affiliate, net -- -- -- -- 297 1 5,046 -- -- -- -- -- 5,047 Exercise of options and warrants -- -- -- -- 468 1 1,419 -- -- -- -- -- 1,420 Deferred compensation on grant of stock options -- -- -- -- -- -- 486 -- -- (486) -- -- -- Compensation expense -- -- -- -- -- -- -- -- -- 225 -- -- 225 Dividends paid - Series A -- -- -- -- -- -- (1,577) -- -- -- -- -- (1,577) Dividends paid - Series B -- -- -- -- -- -- (141) -- -- -- -- -- (141) Dividends paid - Series C -- -- -- -- -- -- (1,107) -- -- -- -- -- (1,107) Use of advertising credits -- -- -- -- -- -- -- -- 12 -- -- -- 12 Net loss -- -- -- -- -- -- -- -- -- -- -- (4,718) (4,718) ------ ------ ------ ------ ------ ------ ------- ------- -------- ------- ------- ---------- --------- Balance at December 31, 1995 -- -- -- -- 15,530 16 61,650 -- (2,488) (261) -- (21,184) 37,733 Issuance of common stock: Braun Simmons Acquisition -- -- -- -- 375 -- 4,170 -- -- -- -- -- 4,170 Merger with Colonial Data -- -- -- -- 15,406 15 179,103 -- -- -- -- -- 179,118 Exercise of options and warrants -- -- -- -- 730 1 2,176 -- -- -- -- -- 2,177 Employee stock purchase plan -- -- -- -- 6 -- 50 -- -- -- -- -- 50 Retirement of common stock for long-term investment -- -- -- -- (230) -- (3,392) -- -- -- -- -- (3,392) Use of advertising credits -- -- -- -- -- -- -- -- 32 -- -- -- 32 Compensation expense -- -- -- -- -- -- -- -- -- 128 -- -- 128 Net loss -- -- -- -- -- -- -- -- -- -- -- (95,727) (95,727) ------ ------ ------ ------ ------ ------ ------- ------- -------- ------- ------- ---------- --------- Balance at December 31, 1996 -- -- -- -- 31,817 32 243,757 -- (2,456) (133) -- (116,911) 124,289 Issuance of common stock: Employee stock purchase plan -- -- -- -- 45 -- 128 -- -- -- -- -- 128 Exercise of options -- -- -- -- 1 -- 5 -- -- -- -- -- 5 Cancellation of accrued stock options -- -- -- -- -- -- 1,809 -- -- -- -- -- 1,809 Purchase of treasury stock -- -- -- -- (682) -- -- (2,064) -- -- -- -- (2,064) Charge-off of advertising credits -- -- -- -- -- -- -- -- 2,456 -- -- -- 2,456 Compensation expense -- -- -- -- -- -- -- -- -- 115 -- -- 115 Unrealized gains on investments -- -- -- -- -- -- -- -- -- -- 425 -- 425 Net loss -- -- -- -- -- -- -- -- -- -- -- (90,094) (90,094) ------ ------ ------ ------ ------ ------ ------- ------- -------- ------- ------- ---------- --------- Balance at December 31, 1997 -- $ -- -- $ -- 31,181 $ 32 $245,699 $(2,064) $ -- $ (18) $ 425 $(207,005) $ 37,069 ====== ====== ====== ====== ====== ====== ======= ======= ======== ======= ======= ========== ========= See accompanying notes to consolidated financial statements.
INTELIDATA TECHNOLOGIES CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995 (in thousands) 1997 1996 1995 ---------- ---------- ---------- Cash flows from operating activities Net loss $ (90,094) $ (95,727) $ (4,718) Adjustments to reconcile net loss to net cash used in operating activities: Impairment of assets and advertising credits 51,052 -- -- In-process research and development -- 77,214 -- Depreciation and amortization 7,335 2,725 619 Provision for losses on accounts receivable 3,891 -- -- Change in inventory reserves 11,354 -- -- Equity in loss of long-term investments -- 2,801 316 Deferred compensation expense 115 128 225 Other non-cash activities 425 (101) (162) Changes in certain assets and liabilities, net of effects of non-cash transactions including acquisitions: Accounts receivable (4,054) (2,318) (681) Inventories (5,954) (1,020) (802) Prepaid expenses and other current assets 1,897 (1,404) 155 Other assets -- 3,742 (87) Accounts payable (1,025) 3,033 485 Accrued expenses (3,044) 1,702 589 Deferred revenue 4,253 388 5 Due from (to) affiliates -- -- (113) ---------- ---------- ---------- Net cash used in operating activities (23,849) (8,837) (4,169) ---------- ---------- ---------- Cash flows from investing activities Purchase of short-term investments -- (12,418) -- Purchases of property, plant and equipment (1,423) (2,304) (1,064) Change in restricted cash -- 3,309 (3,309) Proceeds from sale of other assets, net -- 231 683 Sale of short-term investments 3,114 -- -- Acquisitions, net of cash acquired -- 17,578 -- ---------- ---------- ---------- Net cash provided by (used in) investing activities 1,691 6,396 (3,690) ---------- ---------- ---------- Cash flows from financing activities Proceeds (payments) related to borrowings (500) 2,000 (4,633) Proceeds from issuances of common stock, net of discount 133 2,177 43,420 Payments to acquire treasury stock (2,064) -- -- Payments for redemption of preferred stock -- -- (4,925) Payment of preferred stock dividends -- -- (2,684) Other financing activities -- (212) (767) ---------- ---------- ---------- Net cash provided by (used in) financing activities (2,431) 3,965 30,411 ---------- ---------- ---------- Increase (decrease) in cash and cash equivalents (24,589) 1,524 22,552 Cash and cash equivalents, beginning of year 26,644 25,120 2,568 ---------- ---------- ---------- Cash and cash equivalents, end of year $ 2,055 $ 26,644 $ 25,120 ========== ========== ========== See accompanying notes to consolidated financial statements.
INTELIDATA TECHNOLOGIES CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995 (1) ORGANIZATION InteliData Technologies Corporation ("InteliData" or the "Company"), is engaged in providing products and services for two primary markets: telecommunications and electronic commerce. The Company designs, develops and markets telecommunications products, including Caller ID adjuncts, integrated and smart telephones, and markets small business systems to retailers and distributors. The Company also develops products and services for financial institutions to assist in home banking and electronic bill payment initiatives. During the fourth quarter of 1997, the Company announced its intention to sell the interactive services division which was established to provide interactive applications for use on smart telephones and other small screen devices, such as alpha-numeric pagers, Personal Communication Systems ("PCS") devices and personal digital assistants ("PDAs"). The discontinued operations of the interactive services division are not considered to be material to the overall financial statements. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (a) Consolidation - The consolidated financial statements include the accounts of the Company after elimination of all intercompany balances and transactions. Certain items from the 1996 and 1995 financial statements have been reclassified to conform to the 1997 financial statement presentation. (b) Accounting 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 period. Actual results could differ from those estimates. The Company considers the impairment of long-lived assets based on an assessment of the asset's ability to contribute to the profitability of the Company using estimates of expected future cash flows. The Company records inventory reserves based on current market conditions. (c) Revenue Recognition - Revenue is recorded when products and repair merchandise are shipped to the customer. Lease revenue is recorded based on the units in service at the end of the prior month since these leases are cancelable at any time. The Company recognizes service revenue from consulting and maintenance contracts as the services are provided. (d) Cash and Cash Equivalents - The Company considers all non-restricted highly liquid investments with original maturities of three months or less to be cash equivalents. Cash and cash equivalents are stated at cost, which approximates market. (e) Short-term Investments - The Company reports its short-term investments in marketable securities as available-for-sale with any unrealized gains (losses) reflected as a separate component of stockholders' equity. Realized gains or losses are determined on the first-in, first-out method and are reflected in net income. Short-term investments are reported at cost which approximates fair value. (f) Inventories - Inventories are stated at the lower of cost or market, with cost determined on a weighted average basis. (g) Property, Plant and Equipment - Property, plant and equipment is stated at cost. Equipment under capital lease is stated at the lower of the present value of minimum lease payments at the beginning of the lease term or the estimated fair value of the equipment at the inception of the lease. Depreciation of property and equipment is calculated using the straight-line method over the estimated useful lives of the assets as follows: Category Years ------------------------- ----- Building and improvements 5-20 Leasehold improvements 5-15 Leased equipment 2-5 Equipment 3-7 Molds and tools 3-5 Equipment held under capital lease and leasehold improvements are amortized using the straight-line method over the lease term or estimated useful life, whichever is shorter. The cost and accumulated depreciation of assets sold or retired are removed from the respective accounts and any gain or loss is reflected in income. Maintenance and repairs are charged to expense as incurred. (h) Intangible Assets - The Company carried its intangible assets at December 31, 1996, including costs in excess of net assets acquired and other intangible assets, at cost which were amortized using the straight-line method over 2 to 15 years. Other intangible assets are reported in other assets on the balance sheet. (i) Deferred Revenues - The Company received five million dollars from Visa as a result of an agreement whereby the Company surrendered the right to certain future royalty payments. The cash payment is recorded in deferred revenue and is being recognized in electronic commerce revenues over a two year period. (j) Income Taxes - Income taxes are accounted for in accordance with the asset and liability method. Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. (k) Accounting for Stock-Based Compensation - The Company applies APB Opinion No. 25 and related interpretations in accounting for its plans. Statement of Financial Accounting Standards No. 123 "Accounting for Stock-Based Compensation" ("SFAS 123") was issued by the Financial Accounting Standards Board in 1995 and, if fully adopted, changes the methods for recognition of cost on plans similar to those of the Company. The Company has elected to continue to apply the provisions of APB Opinion No. 25 and provide the pro forma disclosure provisions of SFAS 123. (l) Loss per Common Share - Basic loss per common share is computed by dividing net loss, after deducting preferred stock dividend requirements, by the basic weighted average number of shares of common stock outstanding during the year. Diluted loss per common share includes common stock equivalents consisting of stock options. Diluted loss per share is not presented because of the net losses. Dilutive stock options that were not included in the loss per share computation because they would have been antidilutive for 1997, 1996 and 1995 were approximately 3,250,000, 3,000,000 and 2,400,000, respectively. Statement of Financial Accounting Standards No. 128, Earnings Per Share ("SFAS 128") establishes new standards for computing and presenting earnings per share ("EPS"). It replaces the presentation of primary and fully diluted EPS with a presentation of basic EPS and diluted EPS, requires a dual presentation on the face of the financial statements, and requires a reconciliation of basic EPS to diluted EPS. The presentation of basic EPS and diluted EPS would have been the same as EPS actually reported for the respective periods because of net losses. All prior net loss per share amounts have been named basic loss per share and such amounts were not changed by this required restatement. Dividend requirements on all series of the Company's preferred stock prior to the redemption or conversion of such preferred stock are deducted from net income or loss applicable to common shareholders in computing net loss per common share. The preferred dividend requirement was $681,000 for the year ended December 31, 1995. (m) New Accounting Pronouncements - Statement of Financial Accounting Standards No. 130, Reporting Comprehensive Income ("SFAS 130") was issued in June 1997 and is effective for financial statements beginning after December 15, 1997. The statement establishes new standards for reporting and display of comprehensive income and its components (revenues, expenses, gains, and losses) in a full set of general-purpose financial statements. The impact of SFAS 130 on future financial statement presentations will be to show comprehensive income. Statement of Financial Accounting Standards No. 131, Disclosures about Segments of an Enterprise and Related Information ("SFAS 131") was issued in June 1997 and is effective for financial statements beginning after December 15, 1997. This Statement 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 issued to shareholders. It also establishes standards for related disclosures about products and services, geographic areas, and major customers. Management has not yet determined the impact of SFAS 131 on future financial statement presentations. (3) ACQUISITIONS On November 7, 1996 US Order, Inc. ("US Order") and Colonial Data were merged with and into InteliData Technologies Corporation, a newly formed corporation, through an exchange of stock ("Mergers"). Upon consummation of the Mergers, each outstanding share of US Order common stock was converted into one share of InteliData common stock and each outstanding share of Colonial Data common stock was converted into one share of InteliData common stock. The transaction was accounted for as a purchase of Colonial Data by US Order. Accordingly, the historical financial results of US Order are the historical financial results of InteliData. Effective September 30, 1996 Braun, Simmons & Co. ("Braun Simmons"), a firm specializing in the development of home banking and electronic commerce solutions for financial institutions, was merged into US Order (the "Braun Simmons Acquisition"). This merger was accounted for as a purchase of Braun Simmons by US Order. US Order acquired all of the outstanding stock of Braun Simmons for $2 million and 375,000 shares of the Company's common stock. (a) Unaudited Pro Forma Condensed Consolidated Financial Information The unaudited pro forma condensed consolidated statements of operations for the years ended December 31, 1996 and 1995 give effect to the Mergers and the Braun Simmons Acquisition as if each was completed as of January 1, 1995 and combines US Order's, Braun Simmons' and Colonial Data's statements of operations for each of those periods. Such statements of operations do not include the combined effect of the $77 million nonrecurring charges for in-process research and development. However, such statements do reflect adjustments for the elimination of historical transactions between US Order, Braun Simmons and Colonial Data, amortization of goodwill and related income tax effects. The unaudited pro forma condensed consolidated financial information is provided for illustrative purposes only and is not necessarily indicative of the consolidated financial information that would have been reported had the mergers occurred on the dates indicated, nor do they represent a forecast of the consolidated financial information for any future period. The unaudited pro forma condensed consolidated financial information should be read in conjunction with the historical financial statements and accompanying notes of the Company. Shown below is the unaudited pro forma condensed consolidated statements of operations for the combined businesses of US Order, Braun Simmons and Colonial Data (in thousands, except per share amounts). Year Ended December 31, 1995: Historical Pro Forma ---------------------------------------- ---------- US Order Braun Simmons Colonial Data Adjustments Reference InteliData -------- ------------- ------------- ----------- ------------- ---------- Revenues......................... $ 4,186 $ 1,841 $ 74,194 $ -- $ 80,221 -- Cost of revenues................. 2,470 1,024 44,240 1,089 (2) 48,823 Gross profit..................... 1,716 817 29,954 (1,089) (2) 31,398 Operating expenses............... 6,877 826 11,056 5,494 (3) 24,253 Operating income (loss).......... (5,161) (9) 18,898 (6,583) (2)(3) 7,145 Net income (loss)................ (4,718) (29) 12,523 (4,313) (2)(3)(4)(5) 3,463 Basic income (loss) per share.... $ (0.50) $ 0.87 $ 0.14 Diluted income (loss) per share.. $ (0.50) $ 0.84 $ 0.11
Year Ended December 31, 1996: Pro Forma Pro Forma ---------------------------------------- ---------- US Order Braun Simmons Colonial Data Adjustments Reference InteliData -------- ------------- ------------- ----------- ------------ ---------- Revenues......................... $ 4,227 $ 3,653 $ 63,987 $ (1,894) (1) $ 69,973 Cost of revenues................. 3,832 2,272 43,490 101 (1)(2) 49,695 Gross profit..................... 395 1,381 20,497 (1,995) (2) 20,278 Operating expenses............... 19,911 1,284 18,312 2,285 (3) 41,792 Operating income (loss).......... (19,516) 97 2,185 (4,280) (2)(3) (21,514) Net income (loss)................ (19,349) 67 688 4,011 (2)(3)(4)(5) (14,583) Basic and diluted income (loss) per share...................... $ (1.20) $ 0.04 $ (0.46)
Pro Forma Adjustments The following pro forma adjustments have been made to the unaudited pro forma condensed consolidated financial information: (1) Reflects the elimination of intercorporate transactions. (2) Reflects the amortization associated with an allocation of the purchase price of Colonial Data for its lease base of $1.9 million to recognize the excess of the estimated fair market value over the carrying amount and its amortization on a straight-line basis over five years. (3) Reflects the allocation of purchase price to developed technology and goodwill. Such developed technology is amortized on a straight-line basis over two years; goodwill is amortized on a straight-line basis over 7 years for Braun Simmons and 15 years for Colonial Data. (4) Reflects accrual of the transactions and other related costs. Estimated costs incurred by Colonial Data relating to the Mergers of $2 million have been reflected as expenses in the pro forma statement of operations for the year ended December 31, 1995. Estimated costs incurred by Braun Simmons relating to the Braun Simmons Acquisition of $50,000 have been reflected as expenses in the pro forma consolidated condensed statement of operations for the year ended December 31, 1995. (5) Reflects the effect of the combination of Braun Simmons', US Order's and Colonial Data's operations and the above adjustments on income taxes. A valuation allowance has been recognized for the pro forma net deferred tax assets of InteliData, relating primarily to operating loss carryforwards generated by US Order prior to the Mergers and the Braun Simmons Acquisition, based on an assessment of the likelihood of recoverability of such amounts. As a result of the Mergers and the Braun Simmons Acquisition, the use of US Order's operating loss carryforwards may be limited in future years. (b) Purchase Accounting (in thousands) The purchase amount of Braun Simmons was: Fair value of common stock issued $4,170 Cash consideration 2,000 US Order transaction costs 913 ------ Total $7,083 ====== The purchase amount was allocated for Braun Simmons as follows: Current assets $ 700 Equipment and other 286 In-process research and development 4,914 Goodwill 1,898 Liabilities assumed (715) ------ Total $7,083 ====== The purchase amount of Colonial Data was: Fair value of common stock issued $179,118 Fair value of employee stock options and warrants 2,805 Cost of previous investment in Colonial Data 3,393 US Order transaction costs 1,309 -------- Total $186,625 ======== The purchase amount was allocated for Colonial Data as follows: Current assets $ 60,488 Lease base 3,747 Equipment and other 5,754 In-process research and development 72,300 Developed technology 1,418 Goodwill 49,483 Liabilities assumed (6,565) -------- Total $186,625 ======== The allocation of the purchase amounts to both Braun Simmons and Colonial Data tangible and identifiable intangible assets was based on independent appraisals of the estimated fair value of certain of those assets. Such appraisals indicated approximately $5 million and $72 million, respectively, for purchased in-process research and development for Braun Simmons and Colonial Data, respectively, which was expensed by the Company upon each closing, as the technologies had not reached technological feasibility and did not have alternative future uses. The unaudited pro forma condensed consolidated statements of operations do not include this one-time charge for purchased in-process technology as it represents a material nonrecurring charge. (c) Income (Loss) Per Share US Order's historical loss per share for the year ended December 31, 1995 includes $681,000 of preferred dividend requirement which has been deducted from historical net loss in determining net loss attributable to common stockholders. All of US Order's series of preferred stock, including accumulated dividends, were redeemed or converted to common stock in June 1995. The historical preferred dividend requirement has been excluded from the computations of pro forma income (loss) per share. The weighted average shares used in the computations of pro forma basic and diluted income (loss) per share assumes that the shares issued in the acquisition of Braun Simmons and the total number of shares exchanged in the Mergers and the Braun Simmons Acquisition, net of canceled intercorporate investment shares, were outstanding for all periods presented. The impact of outstanding stock options and warrants of the Company has been considered using the treasury stock method. (4) SEGMENT REPORTING The Company maintains operations in two primary markets: telecommunications and electronic commerce. Intersegment sales are not material. Operating loss in these two market divisions represents total revenues less operating expenses, and excludes general corporate expenses, other income and expense and income taxes. Identifiable assets are those assets employed in each segment's operation, including an allocated value to each segment of cost in excess of net assets acquired. Corporate assets consist primarily of cash and cash equivalents, investments, and assets not employed in the production of goods or services. Segment financial information is as follows (in thousands): Telecom- Electronic munications Commerce Corporate Consolidated ----------- ---------- ---------- ------------ 1997 ---- Revenues $ 56,358 $ 3,951 $ -- $ 60,309 Operating loss (68,116) (6,588) (16,600) (91,304) Identifiable assets 40,816 845 12,740 54,401 Depreciation and amortization 5,990 450 895 7,335 Capital expenditures 907 163 353 1,423 1996 ---- Revenues $ 10,942 $ 2,957 $ -- $ 13,899 Operating loss (79,014) (9,072) (8,026) (96,112) Identifiable assets 97,801 7,932 38,013 143,746 Depreciation and amortization 1,484 198 1,043 2,725 Capital expenditures 110 771 1,423 2,304
Operating losses for 1997 for the telecommunications, electronic commerce and corporate divisions include charges associated with the impairment of assets, including goodwill and advertising credits, were $60,853,000, $2,035,000 and $4,331,000, respectively. Operating loss for 1996 for the telecommunications and electronic commerce divisions include in-process research and development expenses of $72,300,000 and $4,914,000, respectively. Segment information for 1995 is not presented as the Company did not operate under separate business markets during these periods. (5) INVENTORIES Inventories consist of the following at December 31 (in thousands): 1997 1996 -------- -------- Finished goods $ 21,912 $ 23,577 Raw materials 1,108 4,843 --------- ---------- $ 23,020 $ 28,420 ======== ======== The Company's inventories have been reduced by reserves aggregating $11,354,000 at December 31, 1997. (6) PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment consists of the following at December 31 (in thousands): 1997 1996 -------- -------- Land and building $ 1,623 $ 1,482 Equipment 5,801 4,491 Leased equipment 3,053 4,366 Leasehold improvements 834 852 Furniture and fixtures 589 678 -------- -------- 11,900 11,869 Accumulated depreciation (5,651) (2,726) -------- -------- $ 6,249 $ 9,143 ======== ======== (7) ACCRUED EXPENSES AND OTHER LIABILITIES Accrued expenses and other liabilities consists of the following at December 31 (in thousands): 1997 1996 -------- -------- Accrued selling expenses $ 1,363 $ 740 Accrued professional and insurance 1,176 669 Accrued wages and related expenses 1,040 2,387 Accrued compensation expense 954 2,805 Accrued inventory and equipment 933 713 Accrued corporate restructuring and acquisition 636 2,476 Accrued tax liabilities 408 1,100 Other liabilities 1,017 1,490 -------- -------- $ 7,527 $ 12,380 ======== ======== (8) BORROWINGS In May 1996, the Company entered into a credit facility agreement with a bank that provides for borrowings of up to $15,000,000 for cash advances and letters of credit. The loan is secured by substantially all of the Company's assets and bears interest at an annual rate equal to the bank's prime rate. The bank's prime rate was 8.50% and 8.25% as of December 31, 1997 and 1996, respectively. As of December 31, 1997, the Company had $1,500,000 outstanding under the line of credit and had available $7,031,000 for cash advances and letters of credit. The weighted average interest rate, maximum amount borrowed and average amount borrowed in 1997 were 8.49%, $2,100,000 and $326,000, respectively. The carrying amount of the borrowings at December 31, 1997 and December 31, 1996 represent the fair values at the same dates, respectively. The loan agreement contains restrictive covenants, the most significant of which are certain financial ratios and prohibition of dividends. As of December 31, 1997, the Company did not meet the tangible net worth and the debt service coverage covenants of its credit agreement with the bank and was put on notice of default. Subsequently, the Company received a waiver for the covenant violations from the bank. Interest expense was $53,000, $2,000 and $286,000 for the years ended December 31, 1997, 1996 and 1995, respectively. Cash paid for interest was $53,000, $16,000 and $324,000 in 1997, 1996 and 1995, respectively. (9) RELATED-PARTY TRANSACTIONS (a) Strategic Business Partner In August 1994, the Company sold its electronic banking and bill pay operations (the "Visa Bill-Pay System") to Visa. As part of the Visa transaction, the Company's president was appointed to, and the Company's chairman was named an advisor to, the board of directors of Visa InterActive. Included in service fee revenues are $751,000, $1,219,000 and $737,000 in 1997, 1996 and 1995, respectively, related to services provided by the Company to Visa InterActive and Visa banks/members. Included in the accompanying consolidated balance sheets are receivables due from Visa InterActive totaling $581,000 as of December 31, 1996 which was paid in 1997. In August 1997, Visa InterActive was sold to an unrelated party and the Company's officers resigned from their Visa InterActive board positions. (b) Primary Investor The chairman of the board of directors of the Company is a director of WorldCorp, Inc. ("WorldCorp"), the Company's primary investor. Two other directors of the Company are also members of the board of directors of WorldCorp. WorldCorp owned approximately 29% of the Company's outstanding voting stock as of December 31, 1997 and 1996. The Company had a $3,500,000 long-term note that was redeemed in June 1995 with a portion of the proceeds from the sale of common stock in its initial public offering. Interest expense on this long-term note was $216,000 for the year ended December 31, 1995. WorldCorp also paid certain of the Company's personnel costs including salary, benefits, business and other related costs for which the Company was billed on a cost-reimbursed basis. In November 1996, the Company terminated this relationship with WorldCorp. During the years ended December 31, 1996 and 1995, the Company paid WorldCorp approximately $439,000 and $207,000, respectively, related to these arrangements. At December 31, 1997 and 1996, the Company was not indebted to WorldCorp for significant amounts. (c) Investment in Joint Venture On August 4, 1997, the Company provided notice to its joint venture partner, Blau Marketing Technologies, Inc. ("BMT") of its intention to terminate the parties' joint venture in Worldwide Telecom Partners, Inc. ("Worldwide Telecom") effective September 5, 1997. The joint venture provided telecommunications products combined with marketing services to the telecommunications industry. As of September 30, 1997, the Company wrote-off its investment in the joint venture and provided for certain reserves for accounts receivable due from the joint venture. The Company's subsidiary filed suit in September 1997 against Worldwide Telecom, BMT and an officer of BMT in Connecticut Superior Court seeking payment by Worldwide Telecom of past due accounts receivable in the amount of approximately $11.0 million and making certain other claims including breach of contract. BMT filed a separate suit against the Company and its subsidiary, Worldwide Telecom and an officer of the Company on October 31, 1997 alleging breach of contract and making certain other claims and seeking damages in excess of $15,000. In January 1998, the Company settled out of court with BMT in an agreement whereby the Company received the remaining ownership shares in Worldwide Telecom and cash of $1 million. (d) Long-term Investments On October 18, 1995, the Company acquired an equity interest in HFN, a newly formed, development stage personal computer software company that plans to develop and deliver electronic financial products and services to consumers. In 1996, the Company recorded losses in its investment in HFN of $2,801,000. The Company believes its investment was impaired based on the history of losses of HFN. (10) STOCKHOLDERS' EQUITY (a) Stock Options The Company sponsors the following stock option plans which cover substantially all employees and certain directors: the US Order 1991 Stock Option Plan ("1991 Plan"), the Colonial Data 1994 Long-Term Incentive Plan ("Colonial Data Plan"), the US Order 1995 Incentive Plan ("1995 Plan"), the US Order 1995 Non-Employee Directors' Stock Option Plan ("1995 Directors' Plan"), the InteliData 1996 Incentive Plan ("1996 Plan"), the InteliData 1996 Non-Employee Directors' Stock Option Plan ("1996 Non-Employee Directors' Plan"), the InteliData 1997 Executive Plan, and Additional Plans. 1991 Plan --------- The Company had reserved 3,000,000 shares of common stock for the exercise of options under this plan. Options are granted for purchases of the same number of shares of the Company's common stock. For the 1991 Plan, options typically vest monthly over a period of three to five years and expire after eight years. However, no vesting occurs until after the employee has completed one year of service with the Company. The 1991 Plan was terminated in May 1995. As of December 31, 1997, there were 1,157,365 shares vested and exercisable under the 1991 Plan. Colonial Data Plan ------------------ Colonial Data's board of directors authorized the issuance of options for purchase of common stock for key employees. The options entitle the holder to purchase the Company's common stock at the fair market value at the date of grant. Colonial Data's board of directors as part of its 1994 Long-Term Incentive Plan authorized 500,000 shares of stock to be available for grants. The options vest periodically through 2000 and expire in 2006 and expire after 10 years from the date of grant. The Colonial Data Plan was terminated in November 1996. As of December 31, 1997, there were 98,165 shares vested and exercisable under the Colonial Data Plan. 1995 Plan --------- The Company had reserved 1,000,000 shares of common stock for the exercise of options under this plan. Options are granted for purchases of the same number of shares of the Company's common stock. For the 1995 Plan, options typically vest monthly over a period of three to five years and expire after eight years from the date of grant. However, no vesting occurs until after the employee has completed one year of service with the Company. The 1995 Plan was terminated in November 1996. As of December 31, 1997, there were 70,576 shares vested and exercisable under the 1995 Plan. 1995 Directors' Plan -------------------- The Company had reserved 250,000 shares of common stock for the exercise of options under this plan. Options were granted for purchases of the same number of shares of the Company's common stock. For the 1995 Directors' Plan, options vest monthly over a three year period beginning on the date of grant and expire ten years subsequent to the date of grant. The grant price for the plan was based on the average of the closing Nasdaq market price of the Company's stock on the thirty trading days preceding the date of the grant. The 1995 Directors' Plan was terminated in November 1996. As of December 31, 1997, there were 3,958 shares vested and exercisable under the 1995 Directors' Plan. 1996 Plan --------- The Company had reserved 1,500,000 shares of common stock for the exercise of options under this plan. Options are granted for purchases of the same number of shares of the Company's common stock. The exercise price of each option shall not be less than eight-five percent (85%) of the fair market value of the Company's common stock on the date the option is granted and an option's maximum term is 10 years. Options for existing employees are granted by the board of directors and typically vest ratably over four years. Options granted to new hires are awarded at the discretion of the Company's management in accordance with guidelines approved by the board of directors. However, typically, no vesting occurs until after the employee has completed one year of service with the Company. As of December 31, 1997, there were 60,000 shares vested and exercisable under the 1996 Plan. 1996 Non-Employee Directors' Plan --------------------------------- The Company reserved 200,000 shares of common stock for the exercise of options under this plan. Options are granted for each non-employee director who qualifies for participation under the plan. The exercise price of each option shall be the fair market value as defined in the plan of the Company's common stock and an option's maximum term is 10 years. For the 1996 Non-Employee Directors' Plan, options vest monthly over a period of one year. As of December 31, 1997, there were 12,496 shares vested and exercisable under the 1996 Non-Employee Directors' Plan. 1997 Executive Plan ------------------- The Company's Compensation Committee approved the reservation of 1,425,000 shares of common stock for the exercise of options in connection with a newly hired officer's agreeing to be employed by the Company under this plan subject to the approval of the board of directors. The board of directors approved this plan in February 1998. Options are granted by the board of directors and vest according to different schedules: 925,000 options are vested in equal annual increments over three years; 500,000 options vest at the end of eight years but may be accelerated with certain performance milestones. As of December 31, 1997, there were no shares vested and exercisable under the 1997 Executive Plan. Stock Option Repricing ---------------------- In order to motivate and retain employees, on May 21, 1997, the Company offered employees participating in the Company's Stock Option Plans, except for the Chairman of the Board and the Chief Executive Officer, the opportunity to replace any remaining unvested stock options as of May 21, 1997 with an equal number of options at an exercise price of $6.00, which was above the closing market price on such date. Approximately, 642,000 stock options with exercise prices ranging from $6.38 to $23.75 were replaced. The replacement options vest over three years from May 21, 1997 in equal annual increments. As part of the process for the Company's recruitment of a senior executive officer in December 1997, the Company's president and chief executive officer agreed to cancel 425,000 options with an exercise price of $3.00 previously granted to him. In consideration of this cancellation of options, the Compensation Committee of the board of directors repriced 850,000 options previously granted to the executive (of which 750,000 were vested) from an exercise price of $7.13 to an exercise price of $1.80. The vesting schedule for the repriced options was also changed to provide that 425,000 options are vested and the remaining 425,000 options will vest in 2002, but will accelerate upon certain stock performance milestones. The Compensation Committee approved the repricing in February 1998. Additional Plans ---------------- In addition to options issued in 1995 under both the 1991 and 1995 Plans, the Company issued 15,000 options to three of its five non-affiliate directors and 25,000 options to a non-affiliate who helped in arranging a placement of Series C preferred stock. Each of these grants has a $7.13 exercise price. The 45,000 options issued to non-affiliate directors vest monthly over a three-year period, and the 25,000 options granted to the non-affiliate vested immediately. As of December 31, 1997, of these 45,000 options, 30,000 options have been canceled, and options for 39,166 shares of common stock are exercisable under the plan. A summary of the changes in stock options for each of the Company's stock option plans is as follows: Exercise Prices --------------- Number Description Min Max of Options ----------- --- --- ---------- December 31, 1994 $0.98 $7.13 2,430,921 Granted $7.13 $23.75 406,400 Exercised $0.98 $7.13 (373,106) Canceled $0.98 $21.00 (22,510) ---------- December 31, 1995 $0.98 $23.75 2,441,705 Acquired in Mergers $0.21 $20.38 474,800 Granted $7.00 $23.50 756,530 Exercised $0.98 $18.75 (353,182) Canceled $0.98 $23.13 (195,294) ---------- December 31, 1996 $0.21 $23.75 3,124,559 Granted $1.63 $6.00 2,916,450 Exercised $4.50 $4.50 (1,000) Canceled $0.21 $23.75 (1,305,796) ========== December 31, 1997 $0.21 $23.75 4,734,213 ========== During 1996 and 1995, the Company recognized $128,000 and $225,000 of compensation expense, respectively, in connection with options granted at exercise prices below the estimated fair market value of the Company's common stock at the date of grant. As of December 31, 1997, deferred compensation relating to these grants was $18,000, which will be recognized over the remaining vesting period. (b) Stock Compensation Plans At December 31, 1997, the Company has eight stock-based compensation plans. The Company applies Accounting Principles Board Opinion No. 25 and related Interpretations in accounting for stock options granted under the stock compensation plans. Had compensation cost for the Company's stock compensation plans been determined based on the fair value at the grant dates for the 1997, 1996 and 1995 awards under those plans, the Company's net loss and basic loss per share for the years ended December 31, 1997, 1996 and 1995 would have been $95,180,000 and $3.01 per share; $99,341,000 and $5.41 per share; and $5,674,000 and $0.53 per share, respectively. Stock compensation expense for 1995 was calculated for the period from the initial public offering to the end of the year. The weighted average fair value of options granted during 1997, 1996 and 1995 was $2.57, $16.69 and $11.36 per share, respectively. The fair value of options granted was estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions: no dividend yield, expected volatility of 85%, and a risk free interest rate of 6.00%. Options Outstanding Options Exercisable ------------------------------------- ---------------------- Weighted Weighted Plan Description Weighted Average Average - ---------------- Range of Number Average Exercise Number of Exercise Exercise Prices of Options Life Price Options Price ----------------- ---------- ---------- ------ ------- ----- 1991 Plan $0.98 - $9.50 1,697,383 5.3 years $2.78 1,157,365 $2.79 Colonial Data Plan $3.00 - $20.38 186,776 9.2 years $6.11 98,165 $6.21 1995 Plan $6.00 - $23.75 359,754 6.2 years $8.72 70,576 $18.24 1995 Directors' Plan $18.86 - $18.86 7,500 9.8 years $18.86 3,958 $18.86 1996 Plan $1.80 - $6.00 997,800 8.7 years $3.98 60,000 $5.99 1996 Non-Employee Directors' Plan $5.03 - $5.03 20,000 9.3 years $5.03 12,496 $5.03 1997 Executive Plan $1.63 - $1.63 1,425,000 8.7 years $1.63 -- -- Additional Plans $7.13 - $7.13 40,000 7.0 years $7.13 39,166 $7.13
The Company has options outstanding and exercisable in varying price ranges. The schedule below details the Company's options by price range: Options Outstanding Options Exercisable ----------------------------------- --------------------- Weighted Weighted Weighted Average Average Range of Number Average Exercise Number of Exercise Exercise Prices of Options Life Price Options Price ----------------- ---------- ---------- ------ ------- ----- $0.98 - $1.63 1,826,811 6.9 years $1.48 401,811 $0.98 $1.64 - $3.00 1,480,578 8.2 years $2.29 469,078 $1.86 $3.01 - $4.70 174,426 6.0 years $4.20 111,641 $4.16 $4.71 - $7.00 834,595 7.4 years $5.80 82,496 $5.81 $7.01 - $10.50 323,860 4.8 years $7.39 292,773 $7.36 $10.51 - $23.75 93,943 5.8 years $18.43 83,927 $18.33 (c) Employee Stock Purchase Plan Under the Employee Stock Purchase Plan, approved in 1996, the Company is authorized to issue up to 500,000 shares of common stock to its full-time employees, nearly all of whom are eligible to participate. Under the terms of the Plan, employees can choose each period to have up to twenty percent of their annual base earnings withheld to purchase the Company's common stock. The purchase price of the stock is 85 percent of the lower of its beginning-of-period or end-of-period market price. The Employee Stock Purchase Plan's first period began January 2, 1997. During the year ended December 31, 1997, the Company issued 44,307 shares of stock under the plan. The Company had an employee stock purchase plan in existence during 1996, however, there was not a significant number of shares of stock sold under the Plan in 1996. (d) Treasury Stock On August 12, 1997, the Company announced that its board of directors authorized a stock repurchase program whereby the Company is authorized to repurchase from time to time up to two million shares of the Company's common stock from the open market. As of December 31, 1997, the Company had paid $2,064,000 to repurchase 681,500 shares of its common stock. (e) Receivable from Sale of Stock In connection with a private placement offering in 1993, the Company received $2,500,000 in advertising credits. The Company has recognized advertising credits aggregating $44,000 through 1996. During the third quarter of 1997, the Company wrote-off the advertising credits based on the expected lack of use of the credit. As of December 31, 1996, the receivable from sale of stock was included in the accompanying balance sheet as a reduction of stockholders' equity. (f) Subsequent Event In January 1998, the Company announced that its Board of Directors has adopted a Stockholder Rights Plan. The rights are designed to assure that all the Company's stockholders receive fair and equal treatment in the event of any proposed takeover of the Company and to guard against partial tender offers, open market accumulations and other tactics to gain control of the Company without paying all stockholders a control premium. Terms of the Stockholder Rights Plan provide for a dividend distribution of one right for each share of common stock to holders of record at the close of business on February 6, 1998. Shareholders will be able to exercise the rights only in the event, with certain exceptions, an acquiring party accumulates 20 percent or more of the Company's voting stock, or if a party (an acquiring person) announces an offer to acquire 20 percent or more without prior approval of the Company's Board of Directors. The rights will expire on January 21, 2008. Each right initially will entitle the holder to buy one one-thousandth of a share of a new series of preferred stock at a price of $13. In addition, upon the occurrence of certain events, holders of the rights will be entitled to purchase either the Company's common stock or shares in an acquiring person at half of market value. Further, at any time after a person or group acquires 20 percent or more of the Company's outstanding voting stock, the board of directors may, at its option, exchange part or all of the rights (other than rights held by the acquiring person, which will become void) for shares of the Company's common stock on a one-for-one basis. The rights will therefore cause substantial dilution to a person or group that acquires 20 percent or more of the Company's common stock on terms not approved by the board. (11) CORPORATE RESTRUCTURING AND UNUSUAL CHARGES The Company recorded a provision for corporate restructuring during the fourth quarter of 1996 of $1,568,000. This amount consists of $1,323,000 in facilities consolidations, $175,000 in relocation expenses for certain employees, and $70,000 for the write-down of duplicative processing equipment. During 1997, the Company incurred $301,000 in facilities consolidation costs in the second quarter when it closed its customer service location in Virginia, incurred $90,000 in relocation costs for certain employees during the first and second quarter, and incurred $70,000 for the write-down of duplicative processing equipment in the first quarter. The remaining $1,107,000 of the accrual for corporate restructuring costs was associated with other facilities consolidations that did not occur because the Company recognized the need to retain such facilities for product development during 1997 and accordingly, these expenses were reversed back into income during the second quarter of 1997. The Company recorded a provision for corporate restructuring during the third quarter of 1997 of $1,003,000. This amount consists of $771,000 in employee reduction and related matters, $190,000 in obsolete equipment, and $42,000 in facilities closings. As of December 31, 1997, the Company incurred employee reductions and relocation expenses aggregating $177,000 and write-down for obsolete equipment of $190,000. As of December 31, 1997, the Company has $636,000 in remaining restructuring accruals recorded on its books. Management believes that these costs will be incurred by the Company in 1998. During the third quarter of 1997 the Company announced a strategic repositioning of the Company's telecommunications division based on recent events in its marketplace. In connection with this repositioning and the aforementioned corporate restructuring, the Company's management evaluated its financial position and determined that it would be appropriate to charge to operations the remaining unamortized costs of intangible assets due to impairment, adjust inventory carrying amounts to the lower of cost or market, and reflect certain additional restructuring charges, including charges for separation agreements with employees and charges associated with the termination of a joint venture agreement. Additionally, the Company adjusted the carrying value of a receivable from the sale of stock for an advertising credit based on the Company's expected use of the credit. Such third quarter 1997 unusual charges aggregated $49,246,000 for the impairment of intangible assets; $11,333,000 for inventories and commitments; $1,003,000 for restructuring charges (see above); $1,434,000 for separation agreements; $3,653,000 for assets relating to the joint venture; and $2,456,000 for impairment of the advertising credits. The impairment was based on the excess of the carrying value of the assets over the assets' fair values. The fair value of the assets were generally determined as the estimates of future cash flows generated by the assets. (12) EMPLOYEE 401(K) SAVINGS PLAN The Company adopted a defined contribution plan ("Plan") that qualifies for preferential tax treatment under Section 401(a) of the Internal Revenue Code. Participation in the Plan is available to employees who are at least twenty-one years of age and have three months of service. Company contributions to the Plan are based on a percentage of employee contributions and were not significant. Administrative expenses for the Plan were paid for by the Company. (13) INCOME TAXES Income taxes consist of current state income taxes of $61,000 and $25,000 for the years ended December 31, 1997 and 1996, respectively. A reconciliation of taxes computed at the statutory federal tax rate on loss before income taxes to the actual income tax expense is as follows (in thousands): YEARS ENDED DECEMBER 31, -------------------------------------------- 1997 1996 1995 ----------- ----------- ----------- Income tax benefit computed at the statutory rate $ (31,512) $ (33,496) $ (1,604) Book expenses not deductible for tax purposes 27,190 28,378 129 Generation of net operating loss carryforwards 4,383 5,118 1,475 State income tax net of federal benefit 61 25 -- ----------- ----------- ----------- Income taxes $ 61 $ 25 $ -- =========== =========== ===========
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and liabilities at December 31, 1997 and 1996, are as follows (in thousands): 1997 1996 -------- -------- Deferred tax assets: Net operating loss carryforwards $ 20,469 $ 15,942 Capitalized start-up expenditures -- 341 Accounts receivable and inventory revaluation 9,811 6,394 Equipment and property 122 137 General business credit carryforward 489 489 Alternative minimum tax carryforward 60 60 Other -- 128 -------- -------- Total gross deferred tax asset 30,951 23,491 Valuation allowance (30,951) (22,210) -------- -------- Net deferred tax assets -- 1,281 Deferred tax liability: Accounts payable and accrued liabilities -- (1,281) Net deferred taxes $ -- $ -- ======== ======== The net changes in the total valuation allowance for the years ended December 31, 1997 and 1996 were an increase of $8,741,000 and $13,239,000, respectively. At December 31, 1997, the Company had net operating loss carryforwards for federal income tax purposes of approximately $50 million, which expire in 2007 through 2012, general business tax credits of approximately $490,000, which expire in 2005 through 2010, and an alternative minimum tax credit carryforward of approximately $60,000, which may be carried forward indefinitely and used to offset future regular taxable income. Included in the Company's net operating loss carryforward is approximately $3,521,000, related to exercises of employee stock options, which, if utilized in the future to reduce taxable income, will be credited directly to additional paid-in capital. Cash paid for income taxes was not significant in 1997, 1996 and 1995. (14) MAJOR CUSTOMERS AND CONCENTRATION OF CREDIT RISK Financial instruments that potentially subject the Company to credit risk consist principally of trade receivables. The Company sells its products primarily to telephone operating companies, retailers and financial institutions in the United States. The Company believes that the concentration of credit risk in its trade receivables is substantially mitigated by the Company's ongoing credit evaluation process. The Company does not generally require collateral from customers. The Company establishes an allowance for doubtful accounts based upon factors surrounding the credit risk of specific customers, historical trends and other information. Historically, the Company has not incurred any significant credit related losses. Revenues from Bell Atlantic, Worldwide Telecom and the US West lease base represented 19%, 19% and 14% of total revenues for the year ended December 31, 1997, respectively. Revenues from Worldwide Telecom, the US West lease base and Visa InterActive represented 20%, 13% and 11% of total revenues for the year ended December 31, 1996. Revenues from Visa InterActive and a financial institution were 27% and 11% of total revenues for the year ended December 31, 1995. Accounts receivable from Worldwide Telecom, the US West lease base and Bell Atlantic represent 52%, 25% and 16% of the total accounts receivable as of December 31, 1997. Accounts receivable from Worldwide Telecom and the US West lease base represented 24% and 12% of the total accounts receivable at December 31, 1996. (15) COMMITMENTS AND CONTINGENCIES (a) Leases The Company leases facilities and equipment under cancelable and noncancellable operating lease agreements. The facility leases are for terms from one to nine years. Rent expense was $1,054,000, $907,000 and $234,000 for the years ended December 31, 1997, 1996 and 1995, respectively. Future minimum lease payments under noncancellable operating leases with initial or remaining terms in excess of one year at December 31, 1997, were as follows (in thousands): Year ending December 31, ------------------------ 1998 $ 1,017 1999 641 2000 92 -------- Total minimum lease payments $ 1,750 ======== (b) Royalties The Company has a license relating to certain Caller ID patents and technology with Lucent Technologies, Inc. ("Lucent"). For licensed products leased, sold or put in use, the Company pays a royalty to Lucent. The Company also pays a royalty for the sale of Caller ID or other products using certain RBOC names in marketing channels other than sales directly to the RBOC or through an agency program on behalf of the RBOC. Royalty expense was $1,225,000 and $106,000 for the year ended December 31, 1997 and for the period from November 7, 1996 through December 31, 1996, respectively. (c) Letters of Credit The Company was contingently liable for outstanding letters of credit for overseas purchases totaling $6,469,000 and $4,500,000 on December 31, 1997 and 1996, respectively. (d) Patent Matters The Company does not believe that its products and services infringe on the rights of third parties. From time to time, third parties assert infringement claims against InteliData. There can be no assurance that any such assertion will not result in costly litigation or require the Company to cease using, or obtain a license to use, intellectual property rights of such parties. (e) Environmental Matters The Company was informed that certain environmental contamination existed in the part of the Company's premises formerly occupied by another tenant and that the Connecticut Department of Environmental Protection has performed a clean-up and removed such contamination. The Company does not believe that the foregoing will have a material adverse effect on the Company's consolidated financial position or results of operations. (f) Litigation The Company is not currently a party to any material litigation. From time to time, the Company is a party to routine litigation incidental to its business. Management does not believe that the resolution of any or all of such routine litigation will be likely to have a material adverse effect on the Company's financial condition or results of operations. (16) VALUATION AND QUALIFYING ACCOUNTS The components of significant valuation and qualifying accounts for the years ended December 31, 1996 and 1997 were as follows (in thousands): Allowance for Doubtful Reserve for Accounts Inventories ------------- ----------- Balance, December 31, 1995 $ 63 $ -- Acquired in Mergers 1,725 -- ------------- ----------- Balance, December 31, 1996 1,788 -- Charged to costs and expenses 4,279 11,354 Write-offs (388) -- ------------- ----------- Balance, December 31, 1997 $ 5,679 $ 11,354 ============= =========== (17) UNAUDITED QUARTERLY FINANCIAL DATA The results of the Company's quarterly operations for the years ended December 31, 1997 and 1996 were (in thousands, except per share amounts): First Second Third (1) Fourth (2) Total --------- --------- ---------- ---------- ---------- 1997 ---- Revenues $ 21,564 $ 16,863 $ 11,708 $ 10,174 $ 60,309 Operating loss (251) (5,130) (78,859) (7,064) (91,304) Income (loss) before income taxes 188 (2,817) (79,160) (8,244) (90,033) Net income (loss) 165 (2,837) (79,178) (8,244) (90,094) Basic income (loss) per common share $ 0.01 $ (0.09) $ (2.51) $ (0.26) $ (2.85) Diluted net income (loss) per common share $ 0.00 $ (0.09) $ (2.51) $ (0.26) $ (2.85) 1996 ---- Revenues 1,326 $ 548 $ 1,063 $ 10,962 $ 13,899 Operating loss (2,033) (3,145) (8,451) (82,483) (96,112) Loss before income taxes (1,988) (3,206) (8,524) (81,984) (95,702) Net loss (1,988) (3,206) (8,524) (82,009) (95,727) Basic and diluted loss per common share(3) $ (0.13) $ (0.20) $ (0.53) $ (3.21) $ (5.21) (1) During the third quarter of 1997, the Company announced a strategic repositioning and determined that it would be appropriate to charge to operations the remaining unamortized costs of intangible assets due to impairment, and inventory carrying amounts to the lower of cost or market, and to reflect certain restructuring charges. Such transactions resulted in an aggregate charge of $69,125,000 to operations. (2) On November 7, 1996, US Order, Inc. and Colonial Data Technologies Corp. consummated a Plan and Agreement of Merger. Operations of the Company subsequent to November 7, 1996 reflect the operations of the business of US Order and Colonial Data combined. The fourth quarter of 1996 also includes in-process research and development charges of $77,214,000 and restructuring charges of $1,568,000. (3) Loss per share numbers are not necessarily additive due to current year activities and rounding differences.
INDEPENDENT AUDITORS' REPORT BOARD OF DIRECTORS AND STOCKHOLDERS INTELIDATA TECHNOLOGIES CORPORATION HERNDON, VIRGINIA We have audited the accompanying consolidated balance sheets of InteliData Technologies Corporation and subsidiaries (the "Company") as of December 31, 1997 and 1996, and the related consolidated statements of operations, stockholders' equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. 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 provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements referred to above present fairly, in all material respects, the financial position of InteliData Technologies Corporation and subsidiaries as of December 31, 1997 and 1996, and the results of their operations and their cash flows for the years then ended, in conformity with generally accepted accounting principles. DELOITTE & TOUCHE LLP Hartford, Connecticut February 4, 1998 INDEPENDENT AUDITORS' REPORT BOARD OF DIRECTORS AND STOCKHOLDERS INTELIDATA TECHNOLOGIES CORPORATION We have audited the accompanying consolidated statements of operations, stockholders' equity (deficit), and cash flows for the year ended December 31, 1995. 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 audit. We conducted our audit 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 audit provides a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the results of operations and cash flows of InteliData Technologies Corporation for the year ended December 31, 1995, in conformity with generally accepted accounting principles. KPMG PEAT MARWICK LLP Washington, D.C. February 5, 1996 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON - --------------------------------------------------------- ACCOUNTING AND FINANCIAL DISCLOSURE ----------------------------------- None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT - ------------------------------------------------------------ Directors The Company incorporates herein by reference the information concerning directors contained in its Proxy Statement for its 1998 Stockholder's Meeting to be filed within 120 days after the end of the Company's fiscal year (the "1998 Proxy Statement"). Executive Officers The following table sets forth the names and ages of all executive officers of the Company and all positions and offices within the Company presently held by such executive officers: Name Age Position Held ---- --- ------------- William F. Gorog 72 Chairman of the Board John C. Backus, Jr. 39 President and Chief Executive Officer, Electronic Commerce Division Brian A. Bogosian 41 President and Chief Executive Officer, Telecommunications Division John W. Hillyard 41 Vice President and Chief Financial Officer Albert N. Wergley 50 Vice President, General Counsel and Secretary Mark L. Baird 43 Vice President, Operations WILLIAM F. GOROG has served as Chairman and director of the Company since November 1996. Mr. Gorog had served as Chairman of US Order from May 1990 to November 1996. From October 1987 until founding US Order in May 1990, he served as chairman of the board of Arbor International, an investment management firm. From 1982 to 1987, he served as president and chief executive officer of the Magazine Publishers of America, an association representing the principal consumer publications in the United States. During the Ford Administration, Mr. Gorog served as deputy assistant to the President for Economic Affairs and Executive Director of the Council on International Economic Policy. Prior to that time, he founded and served as chief executive officer of DataCorp., which developed the Lexis and Nexis information systems for legal and media research and which was subsequently sold to the Mead Corporation. He currently serves as a director of WorldCorp. JOHN C. BACKUS, JR. has been Chief Executive Officer since April 1997 and President and a director of the Company since November 1996. Prior to November, 1996, he had worked at US Order since its inception in 1990 and had served as President, Chief Operating Officer and a director of US Order since 1994. Prior to working with US Order, Mr. Backus worked for six years at WorldCorp and its subsidiaries holding a variety of executive positions including vice president of corporate development, vice president of finance, and vice president of sales and marketing at a WorldCorp subsidiary. Prior to joining WorldCorp, Mr. Backus worked for Bain & Company, Inc., a worldwide strategy consulting firm with approximately 1,200 employees, in its consulting and venture capital groups where he focused on consumer products and services. Mr. Backus serves on the board of directors of World Airways, Inc. and Home Financial Network. BRIAN A. BOGOSIAN has served as President and Chief Executive Officer of the Company's Telecommunications division since December 1997 and as a director since January 1998. Before joining the Company, he was president of USTeleCenters, a marketer of local exchange services for the Regional Bell Operating Companies, since 1988. Prior thereto, he was Senior Vice President of AIM Telecom, a New Jersey based telephone equipment company. Before AIM, he served in management positions with Bell Atlantic, Southern New England Telephone, and CTC Communications. JOHN W. HILLYARD has served as Vice President and Chief Financial Officer of the Company since January 1997. Prior thereto, Mr. Hillyard was executive vice president and chief financial officer of Vision Technologies LLC, an assembler and seller of computers and peripherals from August 1996 to January 1997. From May 1985 to August 1996, he was the chief financial officer of Deluxe Data Systems, Inc., an electronic funds transfer services company. From May 1982 to May 1985, he was vice president of finance for Hogan Systems, Inc., a developer of an integrated line of application software for large financial institutions. Mr. Hillyard is a Certified Public Accountant. ALBERT N. WERGLEY has served as Vice President and General Counsel of the Company since November 1996. From May 1995 to November 1996, he served as Vice President and General Counsel of US Order. From 1986 to 1994, Mr. Wergley was vice president and general counsel of Verdix Corporation (now Rational Software Corporation), a manufacturer of software development tools. Previous to that he was associated with the McLean, Virginia office of the law firm of Reed Smith Shaw & McClay and with the law firm of Howrey & Simon in Washington, D.C. MARK L. BAIRD has served as Vice President of Operations of the Company since November 1996. Mr. Baird had served as Director of Staff Operations and then as Vice President of Operations for Colonial Data since July 1994. Prior to joining Colonial Data, Mr. Baird was vice president of Consolidated Asset Recovery Corporation, a subsidiary of the Chase Manhattan Bank of Connecticut, N.A., with responsibilities related primarily to special asset management. Prior to joining Chase Manhattan, Mr. Baird held various positions, most recently as assistant vice president of The Bank Mart, a mutual savings bank. Prior to that, Mr. Baird was assistant to the chairman of the Bodine Corporation, a privately held machine tool manufacturer. Beneficial Ownership Reporting The Company incorporates herein by reference the information required by Item 405 of Regulation S-K contained in its 1998 Proxy Statement. ITEM 11. EXECUTIVE COMPENSATION - ------------------------------- The Company incorporates herein by reference the information concerning executive compensation contained in the 1998 Proxy Statement. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT - ----------------------------------------------------------------------- The Company incorporates herein by reference the information concerning security ownership of certain beneficial owners and management contained in the 1998 Proxy Statement. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS - ------------------------------------------------------- The Company incorporates herein by reference the information concerning certain relationships and related transactions contained in the 1998 Proxy Statement. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K - ------------------------------------------------------------------------- (a) 1. FINANCIAL STATEMENTS See Item 8 of this Report 2. FINANCIAL STATEMENT SCHEDULES See Item 8 of this Report 3. EXHIBITS (* denotes filed herewith) Status of Prior Documents InteliData's Annual Report on Form 10-K for the year ended December 31, 1997, at the time of filing with the Securities and Exchange Commission, shall modify and supersede all prior documents filed pursuant to Sections 13, 14, and 15(d) of the Securities Exchange Act of 1934 for purposes of any offers or sales of any securities after the date of such filing pursuant to any Registration Statement or Prospectus filed pursuant to the Securities Act of 1933, as amended, which incorporates by reference such Annual Report on Form 10-K. 2.1 Agreement and Plan of Merger dated as of August 5, 1996, between Colonial Data Technologies Corp. and US Order, Inc. (Incorporated herein by reference to the Company's Registration Statement on Form S-4, File Number 333-11081). 2.2 Amendment No. 1 dated as of November 7, 1996, by and among US Order, Inc., Colonial Data Technologies Corp. and InteliData Technologies Corporation to the Agreement and Plan of Merger. (Incorporated herein by reference to the Company's Current Report on Form 8-K filed with the Commission on November 12, 1996). 3.1 Certificate of Incorporation of InteliData Technologies Corporation. (Incorporated herein by reference to the Company's Registration Statement on Form S-4, File Number 333-11081). 3.2 Bylaws of InteliData Technologies Corporation. (Incorporated herein by reference to the Company's Registration Statement on Form S-4, File Number 333-11081). 10.1 US Order, Inc. 1991 Stock Option Plan. (Incorporated herein by reference to the US Order Registration Statement on Form S-1, File Number 33-90978). 10.2 US Order, Inc. 1995 Incentive Plan. (Incorporated herein by reference to the US Order Registration Statement on Form S-1, File Number 33-90978). 10.3 US Order, Inc. Non-Employee Directors' and Directors' Stock Option Plans. (Incorporated herein by reference to the US Order Registration Statements on Form S-8, File Numbers 333-2348 and 333-2346). 10.4 Stock Option Agreement, dated as of August 1, 1994, between US Order, Inc. and John C. Backus, Jr. (Incorporated herein by reference to the US Order Registration Statement on Form S-1, dated June 1, 1995, File Number 33-90978). 10.5 Amendment No. 1, dated as of May 1, 1995, to Stock Option Agreement between US Order, Inc. and John C. Backus, Jr. (Incorporated herein by reference to the US Order Registration Statement on Form S-1, File Number 33-90978). 10.6 Employment Agreement, dated as of July 1, 1996, between Colonial Data Technologies Corp. and Robert J. Schock. (Incorporated herein by reference to the Company's Registration Statement on Form S-4, File Number 333-11081). 10.7 Technical Information and Patent License Agreement effective as of August 1, 1987 by and between American Telephone and Telegraph and Colonial Data Technologies Corp. (Incorporated herein by reference to the Colonial Data Report on Form 10-Q for the quarter ended September 30, 1989, File Number 0-15562). 10.8 Colonial Data Technologies Corp. 401(k) Plan. (Incorporated herein by reference to the Colonial Data Report on Form 10-K for the year ended December 31, 1994, File Number 0-15562). 10.9 Agreement, dated as of March 1, 1996 between Colonial Data Technologies Corp. and Robert J. Schock. (Incorporated herein by reference to the Colonial Data Report on Form 10-Q for the quarter ended March 31, 1996, File Number 0-15562). 10.10 Amended and Restated Loan and Security Agreement between Colonial Technologies Corp. and People's Bank, dated May 3, 1996. (Incorporated herein by reference to the Colonial Data Report on Form 10-Q for the quarter ended June 30, 1996, File Number 0-15562). 10.11 Revolving Credit Note between Colonial Technologies Corp. and People's Bank, dated May 3, 1996. (Incorporated herein by reference to the Colonial Data Report on Form 10-Q for the quarter ended June 30, 1996, File Number 0-15562). 10.12 Guaranty Agreement between Colonial Data Technologies Corp. and People's Bank, dated May 3, 1996. (Incorporated herein by reference to the Colonial Data Report on Form 10-Q for the quarter ended June 30, 1996, File Number 0-15562). 10.13 Bond Purchase Agreement by and among CDT Realty Corp. and 80 Pickett District Associates, L.L.C., dated as of September 13, 1996. (Incorporated herein by reference to the Company's Report on Form 10-Q for the quarter ended September 30, 1996, File Number 000-21685). 10.14 InteliData Technologies Corporation 1996 Incentive Plan. (Incorporated herein by reference to the Company's Registration Statement on Form S-8, File Number 333-16115). 10.15 InteliData Technologies Corporation Non-Employee Directors' Stock Option Plan. (Incorporated herein by reference to the Company's Registration Statement on Form S-8, File Number 333-16117). 10.16 InteliData Technologies Corporation Employee Stock Purchase Plan. (Incorporated herein by reference to the Company's Registration Statement on Form S-8, File Number 333-16121). 10.17 Aircraft Lease Agreement between CDT Corp. and Colonial Data Technologies Corp. (Incorporated herein by reference to Exhibit 10 to Registrant's Report on Form 10-K of the year ended December 31, 1996, File Number 000-21685). 10.18 Employment Agreement dated August 11, 1997 between InteliData Technologies Corporation and John C. Backus, Jr. (Incorporated herein by reference to Exhibit 10 to Registrant's Report on Form 10-Q of the quarter ended September 30, 1997, File Number 000-21685). * 10.19 Consulting Agreement dated May 7, 1997 between InteliData Technologies Corporation and Robert J. Schock. * 10.20 Employment and Non-Competition Agreement dated December 17, 1997 between InteliData Technologies Corporation and Mark L. Baird. * 10.21 Employment and Non-Competition Agreement dated December 17, 1997 between InteliData Technologies Corporation and John W. Hillyard. * 10.22 Employment and Non-Competition Agreement dated December 17, 1997 between InteliData Technologies Corporation and Albert N. Wergley. 16.1 Letter from KPMG Peat Marwick LLP. (Incorporated herein by reference to the Company's Current Report on Form 8-K filed with the Commission on November 27, 1996). * 21.1 InteliData Technologies Corporation List of Significant Subsidiaries. * 23.1 Consent of Deloitte & Touche LLP. * 23.2 Consent of KPMG Peat Marwick LLP. 27.1 Financial Data Schedule, December 31, 1997. 27.2 Financial Data Schedule, March 31, 1997 (restated). (b) REPORTS ON FORM 8-K The Company filed a Current Report on Form 8-K with the Securities and Exchange Commission on January 21, 1998. * * * * * * * * * * * * * * * 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. INTELIDATA TECHNOLOGIES CORPORATION By /s/ John C. Backus, Jr. ----------------------------------------- John C. Backus, Jr. President and Chief Executive Officer of Electronic Commerce Division and Director (Principal Executive Officer) 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/ John C. Backus, Jr. President and Chief Executive Officer March 30, 1998 - ----------------------- of Electronic Commerce Division and John C. Backus, Jr. Director (Principal Executive Officer) /s/ William F. Gorog Chairman of the Board and Director March 30, 1998 - -------------------- William F. Gorog /s/ Brian A. Bogosian President and Chief Executive Officer March 30, 1998 - --------------------- of Telecommunications Division Brian A. Bogosian and Director /s/ John W. Hillyard Vice President and Chief Financial March 30, 1998 - ------------------- Officer (Principal Financial and John W. Hillyard Accounting Officer) /s/ T. Coleman Andrews, III Director March 30, 1998 - --------------------------- T. Coleman Andrews, III /s/ Patrick F. Graham Director March 30, 1998 - --------------------- Patrick F. Graham /s/ John J. McDonnell, Jr. Director March 30, 1998 - -------------------------- John J. McDonnell, Jr. /s/ L. William Seidman Director March 30, 1998 - ---------------------- L. William Seidman
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