-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K (MARK ONE) /X/ ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2000 OR / / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 COMMISSION FILE NO. 0-23087 ------------------------ STARTEC GLOBAL COMMUNICATIONS CORPORATION (Exact name of registrant as specified in its charter) DELAWARE 52-2099559 (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 1151 SEVEN LOCKS RD. POTOMAC, MD 20854 (Address of principal executive offices) (301) 365-8959 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act: None Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, PAR VALUE $0.01 PER SHARE (Title of class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /X/ No / / Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrants' 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. / / Non-affiliates of the Registrant held approximately 4,756,441 shares of Common Stock as of April 12, 2001. The fair market value of the stock held by non-affiliates is approximately $223,553 based on the sale price of the shares on April 12, 2001. As of April 12, 2001, 16,554,156 shares of Common Stock per share, par value $0.01, were outstanding. DOCUMENTS INCORPORATED BY REFERENCE: None. -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- TABLE OF CONTENTS PAGE ---- PART I. Item 1. Business.................................................... 2 Item 2. Properties.................................................. 33 Item 3. Legal Proceedings........................................... 33 Item 4. Submission of Matters to a Vote of Security Holders......... 33 PART II. Item 5. Market for Registrant's Common Equity and Related 34 Stockholder Matters......................................... Item 6. Selected Financial Data..................................... 35 Item 7. Management's Discussion and Analysis of Financial Condition 36 and Results of Operations................................... Item 7A. Quantitative and Qualitative Disclosures about Market 47 Risk........................................................ Item 8. Financial Statements and Supplementary Data................. 47 Item 9. Changes in and Disagreements with Accountants on Accounting 82 and Financial Disclosure.................................... PART III. Item 10. Directors and Executive Officers of the Registrant.......... 82 Item 11. Executive Compensation...................................... 84 Item 12. Security Ownership of Certain Beneficial Owners and 86 Management.................................................. Item 13. Certain Relationships and Related Transactions.............. 88 PART IV. Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 89 8-K......................................................... 1 PART I NOTE REGARDING FORWARD-LOOKING STATEMENTS This Annual Report on Form 10-K contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements are statements other than historical information or statements of current condition. Some forward-looking statements may be identified by use of terms such as "believes", "anticipates", "intends", or "expects". These forward-looking statements relate to our plans, objectives and expectations for future operations and growth. Other forward-looking statements in this Form 10-K include statements regarding synergies and growth expected as a result of future acquisitions, expected growth in earnings, EBITDA, revenue and gross margin, expected decreases in operating expenses, our expectation regarding our ability to consummate future acquisitions and any restructuring of our Senior Notes or other indebtedness, our ability to meet our obligations to pay interest and fees and repay the principal on our indebtedness and the necessity for and expected availability of additional financing. In light of the risks and uncertainties inherent in all such projected operational matters, the inclusion of forward-looking statements in this Form 10-K should not be regarded as a representation by us or any other person that any of our objectives or plans will be achieved or that any of our operating expectations will be realized. Our revenues and results of operations are difficult to forecast and could differ materially from those projected in the forward-looking statements contained in this Form 10-K as a result of certain risks and uncertainties including, but not limited to, our business reliance on third parties to provide us with technology, infrastructure and content, our ability to integrate and manage acquired technology, assets, companies and personnel, changes in market conditions, the volatile and intensely competitive environment in the telecommunications and Internet industries, the availability of transmission facilities, dependence on call termination agreements, entry into new and developing markets, risks associated with the international telecommunications industry, dependence on operating agreements with foreign partners, substantial foreign governmental control of national telecommunications companies, customer concentration and attrition, dependence on a few significant foreign and domestic customers and suppliers, substantial U.S. and foreign regulatory burdens, difficulty in obtaining foreign licenses or other governmental approvals, international economic and political instability, dependence on effective billing and information systems, rapid technological change, the expansion of our global network, the risk of litigation in connection with the contents of our Web portal, and our dependence on key and scarce employees in a competitive market for skilled personnel. These factors should not be considered exhaustive; we undertake no obligation to release publicly the results of any future revisions we may make to forward-looking statements to reflect events or circumstances after the date hereof or to reflect the occurrence of unanticipated events. ITEM 1. BUSINESS OVERVIEW We are a facilities-based provider of Internet protocol communications services, including voice, data and Internet access. Founded as a corporation in 1989, we market our services to ethnic businesses, residential communities located in major metropolitan areas, to international long distance carriers and to Internet service providers transacting with the world's emerging economies. Our mission is to become a leading provider of Internet Protocol, ("IP"), communication services, including voice, data and Internet services to our targeted ethnic markets, comprised of ethnic communities from the Asia Pacific Rim, the Middle East and North Africa, Russia and Central Europe and Latin and South America. We provide our services through a flexible network of owned and leased facilities, operating and termination agreements, and resale arrangements. We have an extensive network of IP gateways, international gateways, domestic switches, and ownership in undersea fiber optic cables. 2 RECENT DEVELOPMENTS Beginning in the fourth quarter of 2000, we began to modify our business plan. The revised plan calls for a restructuring that includes 1) consolidation of selected North American and European operations, 2) accelerated migration of circuit-switched traffic to our IP network, 3) discontinuation of unprofitable, low-margin business lines and 4) implemention of certain cost reduction procedures. Implementation of this plan commenced in the first quarter of 2001. We believe these actions, combined with our recent financing transactions described below, position us to become EBITDA positive during 2001. REDUCTION IN WORKFORCE As a result of the restructuring, we eliminated approximately 400 positions globally. This number represents approximately 45% of our total workforce. CONSOLIDATION OF SELECTED NORTH AMERICAN AND EUROPEAN OPERATIONS A major part of the restructuring involved the consolidation of selected North American and European operations. This consolidation of operations represents approximately half of the positions we eliminated. A significant portion of this reduction relates to our decision to shift our residential customer service operations from Bethesda, Maryland to Vancouver, Canada, where we already operate a call center facility. Last year, we established our Vancouver presence through the acquisition of Vancouver Telephone Company. Vancouver's diverse ethnic population provides a large pool of highly qualified potential employees to serve as in-language customer service representatives and the shift will allow us to take advantage of lower personnel costs and overhead. We plan to use our Bethesda call center facilities to provide customer service support for our managed network services targeting business customers. We also intend to continue our call center operations in Guam, France and Germany. We are also consolidating our UK, France, Germany and Poland operations to focus on the development of our European business customer base. Germany will become the headquarters for our European customer service operations. ACCELERATED MIGRATION OF CIRCUIT-SWITCHED TRAFFIC TO OUR IP NETWORK Our strategy is to increase our focus on business customers, which generally have higher monthly revenue, generate higher margins and tend to have lower attrition than residential customers. Accordingly, in 2000, we began eliminating low margin circuit-switched wholesale business to focus on the higher-margin voice-over-internet protocol ("VoIP"), business. This migration takes advantage of efficiencies created by our focus on IP technologies and our acquisition of Vancouver Telephone Company. The elimination of circuit-switched business resulted in a reduction of interconnect charges. This change also freed up port capacity for business customers without significantly increasing capital expenditures. WRITE DOWN OF IMPAIRED INVESTMENTS AND ACQUISITION-RELATED GOODWILL As described in greater detail in Note 16 to our financial statements, given our historical operating losses, current liquidity concerns and a significant decline in the market value of our common stock, we performed a review of certain of our long-lived assets and investments we made in other companies as of December 31, 2000. As a result of this review, we recognized a non-cash charge of approximately $50.3 million for the impairment of long-lived assets and certain identifiable intangible assets related to those investments. Specifically, the charges relate to the following three areas: SIGMANET AND GLOBAL VILLAGER. In the fourth quarter of 2000, in our efforts to reduce operating losses and conserve cash, we decided to abandon certain of our web portal services. As a result we 3 discontinued our web portal operations to the Asian Indian community that was operating under the name of IAOL and our bilingual Chinese/English Web community, DragonSurf.com. We obtained IAOL and DragonSurf.com in December 1999 and March 2000, respectively, through the acquisitions of SigmaNet and Global Villager. As we could not continue to fund the operating cash needs of the web portals and we did not foresee a near term improvement in the cash flows of the respective portals, we decided to shut down their operations. As a result, we recognized an impairment charge of approximately $17.4 million for the unamortized intangibles and goodwill of IAOL and DragonSurf.com. SUNRISE. Pursuant to an agreement with Sunrise World Communications, Inc. ("Sunrise") dated September 29, 2000, we acquired a 40% equity interest in Sunrise and a 5 year carrier services agreement in exchange for certain VoIP termination facilities and the forgiveness of accounts receivable due to us from Sunrise. Sunrise provides Internet communications service between the United States and certain emerging countries. During the first nine months of 2000, we earned revenue of approximately $24.5 million from terminating traffic on behalf of Sunrise. The corresponding receivable together with certain other deposits and VoIP termination facilities, with a carrying value of $4.3 million were exchanged for Sunrise common stock and a favorable carrier services agreement. We valued the investment in Sunrise at approximately $29 million based on the carrying value of assets exchanged and as supported by a third party appraisal for the value of Sunrise's equity. The transaction was negotiated at a time when Internet communications entities were highly valued in the market place. Given the dramatic downturn in market valuations and liquidity concerns facing telecommunication entities, we expensed the investment in Sunrise during our fourth quarter. While we continue to believe that the carrier services agreement provided by Sunrise is valuable to us, there can be no assurance that these services will continue to be available to us over the term of the agreement. ASIAN TELECOMMUNICATIONS BUSINESS. Given our historical operating losses, current liquidity concerns and a significant decline in the market value of our common stock, we reviewed our long-lived assets including identifiable intangible assets and goodwill for impairment. We performed our review based upon projected probable undiscounted cash flows for our respective operating regions. We concluded that the probable undiscounted cash flows for our Asian telecommunications business would be less than the carrying value of the respective long-lived assets. This reflects our reduction in force in our Hong Kong operations. We recognized an impairment charge of $3.3 million to reduce long-lived assets and goodwill with a carrying value of approximately $16 million to estimate fair value. There were no losses on impairment for the year ended December 31, 1999. DEPARTURE FROM UNPROFITABLE BUSINESS LINES In 2000, we began to formulate a revised business plan to, among other things, discontinue unprofitable, low-margin business lines. We also decided to eliminate the low margin circuit switched wholesale business to focus on the higher margin VoIP business. We terminated our eStart operations, and consolidated UK, France, Germany and Polish operations to focus on the development of our European business customer base. Startec UK, France and Germany will discontinue non-profitable product lines and focus on growing our existing profitable product line and increasing penetration into the business customers segment. RECENT FINANCING TRANSACTIONS In April 2001 in connection with the Allied financing transactions described below, we amended the NTFC Facility. Pursuant to the amendment, NTFC agreed to waive certain defaults and revise certain financial covenants. In connection with this amendment, we used $7.625 million of the proceeds from the revolving accounts-receivable purchase facility to pay NTFC overdue loan payments, prepayments and a commitment fee. We also agreed to issue a stock purchase warrant to NTFC to purchase 25,000 shares of our common stock upon any restructuring of our Senior Notes. 4 In April 2001 two of our wholly owned subsidiaries, Startec Global Operating Company ("Operating") and Startec Global Licensing Company ("Licensing"), together borrowed an aggregate of $20 million from Allied, which funds were distributed to us as a dividend. The proceeds were used to repay outstanding indebtedness under the Allied Facility. As a result, the parent company no longer has any indebtedness to Allied, but Operating and Licensing are jointly indebted to Allied for $20 million, $10 million of which is secured by their accounts receivable and $10 million of which is unsecured. This indebtedness bears interests at a fixed rate of 15% per annum, payable semi-annually in arrears, at the fixed rate of 10% per annum. A balloon payment is due at maturity in 2005, but the indebtedness may be prepaid at any time without penalty. In addition, we are subject to certain financial and operational covenants, including limitations on our ability to incur additional indebtedness. In addition, Operating and Licensing entered into a two-year accounts-receivable purchase facility with Allied, resulting in net proceeds of approximately $14.3 million. The proceeds of this purchase facility may be used for general corporate purposes, including payments on the NTFC Facility, $7.625 million, as described above. Under the purchase facility, Allied purchased an interest in the accounts receivable of Operating and Licensing. The annual discount rate payable with respect to the purchase price is 16%. During the two-year term of the facility, Allied is obligated to use proceeds from collection of the accounts receivable to purchase additional interests in other accounts receivable up to a maximum aggregate amount of $15 million, assuming that we remain in compliance with the financial and other covenants pursuant to this facility. EVALUATION OF FINANCIAL ALTERNATIVES In March 2001, we entered into an engagement letter with Jefferies & Company, Inc., pursuant to which Jefferies has agreed to act as our financial advisor to assist us in evaluating our financing alternatives. In particular, Jefferies is advising us in connection with a possible restructuring of our $160 million 12% Senior Notes. There can be no assurance that we will successfully restructure the Senior Notes. NASDAQ DELISTING NOTICE On April 5, 2001, we received written notification from the Nasdaq Listing Qualifications Department, stating that our common stock no longer met the listing requirement of the Nasdaq National Market. As permitted under Nasdaq's rules, we have appealed the delisting determination. Our request for an appeal will suspend the delisting process pending a decision by the Nasdaq Listing Qualifications Panel. We do not believe we will be eligible to list our common stock on the Nasdaq Small Cap Market should it be delisted from the Nasdaq National Market. There can be no assurance that our common stock will continue to be listed on Nasdaq. 2000 KEY ACCOMPLISHMENTS During 2000, we continued to exploit our strong presence in ethnic communities by expanding the services we offer. Our strategy is to facilitate our continued expansion into emerging economies by expanding telecommunications and Internet services for our residential customers. The following are our key accomplishments in 2000: 1. We expanded our VoIP network to include 100 gateways in 50 countries, predominantly in the emerging economies. IP technology provides several advantages for us: (i) it reduces traffic termination costs; (ii) it increases bandwidth utilization on long-haul circuits; (iii) it enables us to offer enhanced services, such as Internet access, for select residential customers in North America, Europe and Asia Pacific Rim, data and high-speed Internet services for corporate customers, as well as video services and other broadband applications; and (iv) it reduces our reliance on the network facilities of other carriers. 5 2. We facilitated our entry into the small- and medium-sized enterprise (SME) market through our acquisition of DLC Enterprises, Inc., a telecommunications company that offers dial-1, debit card and ISP services. 3. We expanded our access network in Germany, Europe's largest telecommunications market. This development carries particular strategic importance as Germany is home to over 7 million ethnic immigrants, including people from Russia, Poland, Turkey, Iran, and the Middle East. 4. We consolidated the network traffic of Vancouver Telecom Company (VTC), which we acquired in the first quarter of 2000. Vancouver Telephone Company provides domestic and international long distance services in Canada to over 50,000 residential customers. Vancouver Telephone Company markets its telephone services to ethnic communities in Canada, including Taiwanese, Chinese, Romanian and Serbian communities. GLOBAL NETWORK We continue to build and maintain a state-of-the-art network. Although we originally relied primarily on circuit-switched technologies, we now depend more on Internet Protocol to provide connectivity to the emerging economies of the world, allowing us to integrate voice, data, Internet and video services on a seamless network, supported by a backbone of scalable, IP transaction-based technology. Our network currently consists of 13 domestic and international switches, 100 affiliated IP gateways, 20 Points of Presence (installations of scalable telecommunications equipment, commonly known as POPs) and ownership interests on 14 undersea fiber optic cable systems linking North America with Europe, the Pacific Rim, Asia and Latin America, as well as linking the East and West Coasts of the United States. Our network includes major switching centers in New York, Los Angeles, Miami, Paris, London, Dusseldorf and Guam. These centers also act as Startec Network Access Points (known as SNAPs). To facilitate the termination of calls overseas, we are a party to interconnection agreements with 50 incumbent local carriers in foreign countries, commonly known as PTTs, and other competitive carriers covering 44 countries, primarily in the emerging economies. BUSINESS STRATEGY Our mission is to become a leading provider of voice, data and Internet services to businesses and ethnic residential communities located in major metropolitan areas in North America, Europe and the Asia Pacific Rim. Our strategy relies on the following initiatives: INCREASE SERVICE OFFERINGS TO ETHNIC COMMUNITIES. In 2000, we continued to offer integrated long distance and Internet access services to ethnic residential customers in 20 major metropolitan areas in the United States. We seek to increase our penetration of our existing and prospective markets and to increase our average revenue per customer by: (i) marketing our integrated long distance and Internet access services to our existing long distance customer base; (ii) migrating our dial-around customers to dial-1 services; and (iii) offering additional value-added services such as universal messaging, online billing and customer service, through our communications portal. ACHIEVE "FIRST-TO-MARKET" IN SELECT ETHNIC RESIDENTIAL MARKETS. We believe that we have achieved significant competitive advantages by establishing a customer base and brand name in select ethnic residential communities ahead of our competitors. We intend to capitalize on our proven marketing strategy to further penetrate ethnic communities in North America, Europe and the Asia Pacific Rim ahead of our competitors. We select our target markets based on favorable demographics with respect to long distance telephone usage, level of personal computer (PC) penetration, level of Internet usage, availability of alternative Internet access devices, immigration patterns, population growth and income levels. Targeting select ethnic communities also enables us to aggregate traffic along certain routes, 6 which reduces our network costs, and allows us to focus on rapidly expanding and deregulating telecommunications markets. Our target residential customer base is comprised of immigrants from the emerging markets in the Asia Pacific Rim, the Middle East and North Africa, Central Europe and Russia and Latin and South America. BUILD CUSTOMER LOYALTY THROUGH THE CREATION OF A GLOBAL BRAND. We market our residential and business services under the "Startec" brand. For our residential customers, we seek to build and maintain long-term customer loyalty through tailored, in-language marketing efforts focusing on each ethnic community's specific needs and cultural background. For our business customers we intend to build and maintain long-term loyalty by providing them with a full suite of customized voice, data, and Internet solutions that leverage our global IP network DATABASE MARKETING. We maintain a detailed database of information on our existing and prospective customers. We use this information to target customers, to analyze response rates to marketing campaigns, to monitor their usage and to track their level of satisfaction. Our database marketing approach enables us acquire, up sell, cross sell and retain customers in order to maximize lifetime value. ESTABLISH A STRONG INTERNET PRESENCE THROUGH OUR COMMUNICATIONS PORTAL. We have created an online destination for existing and potential customers to access features and services that are tailored to their communications needs. This communications portal will serve as a sales channel, designed to attract new residential customers to Startec. By creating a robust Internet presence, we hope to strengthen our brand recognition among various ethnic communities and to generate revenue through the use of our communication services (such as dial around, dial-1 long distance, etc.). We will achieve this objective through the use of agent programs, affinity programs with ethnic-centered organizations, and affiliate programs with other web sites. MARKET ENHANCED VOICE, DATA AND INTERNET SERVICES TO COMMERCIAL BUSINESS CUSTOMERS. In 2000, we targeted small and mid-sized enterprises and mid-size business customers with telecommunication expenditures ranging from $2,500 to $25,000 per month. For the small businesses, we have leveraged our ethnic media channels, community relationships and ethnic brand to market our long distance and dial-up Internet acces serivces. We utilized our in-language call centers to provide full-service customer support and technical assistance. For mid-sized business customers, we provide a full range of communications services, including long distance, dial-up Internet access, domestic and international private line services, IP-virtual private networks, web hosting, collocation, ATM and frame relay services. We plan to service these customers with a dedicated nationwide sales team to ensure that they receive a high level of customer service, quality and responsiveness. EXPAND INTERNATIONAL NETWORK FACILITIES. In 1999 and 2000, we expanded our international network facilities by deploying additional switches, POPs and IP technology. We operate a network consisting of domestic and international switches, POPs, IP gateways and ownership interests in undersea fiber-optic cables. Our network spans over 50 countries and includes major switching centers in New York, Los Angeles, Miami, Paris, London, Dusseldorf and Guam. The POPs aggregate traffic from a surrounding region and route it to one of our main switching centers. We have significantly improved the quality of our network by upgrading our monitoring and routing systems and by replacing and converting all of our supporting technology, including customer service, billing and office automation processes to Web-enabled technology. We replaced all of our PC-based systems for customer support with scalable new systems, using IBM Thin Clients and Oracle databases for billing and reporting. DEPLOY IP CAPABILITIES THROUGHOUT OUR NETWORK. To seize the new opportunities available through the convergence of voice and data traffic, we have continued our efforts to deploy a world-class IP network into the emerging economies. In 2000, we integrated 45 IP gateways into our existing IP network. The IP gateways facilitate the transmission of voice and data traffic on our network through packet switching. Installing IP technology throughout our international network facilities provides us 7 with several advantages: (i) it reduces traffic termination costs; (ii) it increases bandwidth utilization on long-haul circuits; and (iii) it reduces our reliance on the network facilities of other carriers. PURSUE STRATEGIC ACQUISITIONS AND ALLIANCES. In order to take advantage of the rapidly changing telecommunications and Internet environments, we are carefully evaluating and pursuing strategic acquisitions, alliances and investments. In 2000, we completed several acquisitions and investments, which have accelerated our entry into global markets and have provided us with important licensing and network capabilities: - During the first quarter of 2000, we acquired Vancouver Telephone Company. Vancouver Telephone Company provides domestic and international long distance services in Canada to over 50,000 residential customers. Vancouver Telephone Company markets its telephone services to ethnic communities in Canada, including Taiwanese, Chinese, Romanian and Serbian communities. - During the first quarter of 2000, we acquired 19.9% of the issued and outstanding shares of DataLink Telecommunications Ltd. DataLink provides us with access to several additional IP gateway facilities in the emerging economies. - During the first quarter of 2000, we acquired several IP termination facilities from various vendors. We have integrated these facilities into our IP network and launched VoIP services as a new line of business in the first quarter of 2000. - During the first quarter of 2000, we acquired DLC Enterprises Inc., a New York-based telecommunications company, which offers dial-1, debit card and ISP services. DLC provides us with a strong management and sales force, proprietary billing and customer provisioning software and small business revenue. The acquisition of DLC facilitates the introduction of commercial services for ethnic and mid-sized business customers. - During the first quarter of 2000, we acquired Global Villager Inc., the owner of a leading bilingual Chinese/English Web community, DragonSurf.com. DragonSurf.com provides a vast range of content and services on its Web site for the Greater Chinese community. KEY MANAGEMENT EXECUTIVES To execute our business strategy, we have a management team of highly-experienced professionals. 8 Ram Mukunda--Founder, Chairman, President and Chief Executive Officer. Prior to founding Startec, Mr. Mukunda was an advisor in strategic planning at INTELSAT, an international consortium responsible for global satellite services. While at INTELSAT, he was responsible for issues relating to corporate, business, financial and strategic planning. Mr. Mukunda earned an M.S. in electrical engineering from the University of Maryland. Prabhav Maniyar--Chief Financial Officer. Mr. Maniyar joined Startec in January 1997. From June 1993 until 1997, he was the chief financial officer of Eldyne, Inc., Unidyne Corporation and Diversified Control systems, LLC, collectively known as the Witt Group of Companies. The Witt Group of Companies was acquired by the Titan Corporation in May 1996. From June 1985 to May 1993, he held progressively more responsible positions with NationsBank, now Bank of America. Subhash Pai--Senior Vice President and Controller. Mr. Pai has been with Startec since January 1992. Prior to joining Startec, he held various positions with a multinational shipping company in India. John H. Wolaver--Chief Operating Officer, North American Operations. Mr. Wolaver joined Startec in January 2000. Prior to joining Startec, he was chief operating officer of G.B. Data Systems, Inc. Mr. Wolaver has held officer level assignments for leading U.S. telecommunications companies, including AT&T, MCI, and Sprint, where he directed corporate sales and marketing programs. Anthony A. Das--Chief Operating Officer, VoIP and Managed Network Services. Mr. Das has worked at Startec since February 1997. Prior to joining Startec, Mr. Das was a senior consultant at Armitage Associates. Prior to joining Armitage Associates, he served as a senior career executive in the Office of the Secretary, Department of Commerce from 1993 to 1995. From 1990 to 1993, Mr. Das was the Director of Public Communication at the State Department. Yolanda Stefanou Faerber--General Counsel, Senior Vice President and Corporate Secretary. Ms. Faerber has been with Startec since January 1999. Previously, she was associated with Piper Marbury Rudnick & Wolfe LLP (formerly, Piper & Marbury LLP) and with Shulman, Rogers, Gandal, Pordy & Ecker, PA, where Ms. Faerber was counsel to Startec during its initial public offering. Gustavo Pereira--Chief Technology Officer. Mr. Pereira has worked at Startec since August 1995. Previously, he served as the director of switching systems for Marconi, an affiliate of Blue Carol Enterprises and Portugal Telecom. Ramesh Seshadri--Chief Information Officer. Mr. Seshadri has worked at Startec since October 1998 and has over 20 years of experience in information technology, of which 19 were spent at IBM. While at IBM, he served as a project manager and architect working in development labs in the U.S. and Germany and as an advisory system engineer on the FAA Air Traffic Control System Development Project. MARKET OPPORTUNITY Through our telecommunications and Internet strategies, we believe that we can capitalize on several emerging growth opportunities through the following service offerings: RETAIL IP TELEPHONY SERVICES AND ISP SERVICES. According to International Data Corporation (IDC), the global retail IP telephony market opportunity is expected to grow from $332 million in 2000 to $55.8 billion in 2005. With a compounded annual growth rate of 179%, this sector is forecasted to be among the fastest growing sectors in the retail communications industry. We intend to target ethnic residential and business customers in North America and Western Europe that transact with emerging economies. We expect to derive revenue from our suite of integrated communications services by using Internet access as a tool to convert high volume dial around customers to dial 1, thereby capturing 9 additional long distance calls at a minimal incremental cost. In addition, we expect to experience lower churn and derive greater EBITDA contribution from these customers on a long-term basis. ISP SERVICES IN EMERGING ECONOMIES. According to The Industry Standard, there were 33 million Internet users outside of North America and Western Europe in 1998. This number was predicted to grow twelve-fold to 412 million by the year 2005. In the Middle East, one of our major markets, industry sources predict that there were approximately one million Internet users who spent an estimated $95 million online in 1999. Moreover, Internet usage in dominant Middle Eastern markets is expected to grow between 30% and 140% on a compounded annual growth basis. The number of Internet users in India is projected to reach 4.5 million with revenue from e-commerce generated from India predicted to grow to over half a billion dollars by 2002. IP-BASED ENHANCED SERVICES. Besides lowering transport and termination costs, our IP network will allow us to generate new revenue streams from next-generation enhanced services like universal messaging, global roaming, and e-commerce. According to IDC, global voice revenue generated utilizing IP technology is expected to reach $24.2 billion by 2002. Due to expected improvements in voice quality, reaching the toll-quality standards of circuit-switched transmissions. IDC estimates that the "voice-enabled Web" is expected to grow to $5.6 billion in 2004, representing a compounded annual growth rate of 462%. IP-VIRTUAL PRIVATE NETWORKS (IP-VPN). According to IDC, the IP-VPN market opportunity is expected to grow to $17.6 billion in 2004. This sector is forecast to be among the fastest growing sectors in the communications industry. We intend to target businesses that transact between the worlds developed and emerging economies. Unlike certain competing offerings which focus on data, our IP-VPN offering combines voice, video and data, thus leveraging our global VoIP network. We also plan to focus on serving selected industry verticals such as Information Technology, Call Centers and Financial Services. COMMUNICATIONS PLATFORM. We expect to generate new revenue streams and reduce costs from new Internet initiatives such as virtual calling cards, universal messaging and online subscription, billing and customer service. We also intend to leverage this platform as an acquisition channel for agent, affinity and affiliate marketing initiatives. MARKETING STRATEGY Startec primarily serves three market segments--ethnic residential, business and carrier wholesale--and uses its global IP network to target products to these segments. Our marketing strategy is to provide overall value to our customers by combining competitive pricing and high levels of service, rather than to compete on the basis of price alone. We operate customer service centers in Maryland, Guam, Canada, the United Kingdom, Germany and France, which are staffed by trained, multilingual customer service representatives. We believe that our focused marketing programs, our early adoption of Internet channels and our dedication to online and offline customer service enhance our ability to attract and retain customers in a low-cost, efficient manner. ETHNIC RESIDENTIAL Our marketing model to ethnic residential consumers consists of a highly-focused niche marketing approach. We identify and target ethnic communities concentrated in major metropolitan areas by conducting demographic and competitive analyses. We employ sophisticated database marketing techniques and a variety of media to reach our targeted ethnic residential customers, including print advertising in ethnic newspapers, advertising on ethnic radio and television stations, advertising on high-traffic ethnic Internet portals and community sites, direct mail, sponsorship of ethnic events and customer referrals. In 2001, we intend to develop our agent, affiliate and affinity programs further in an 10 effort to increase our market share in select ethnic communities. In each of these efforts we intend to take full advantage of our online registration, online billing and online customer care capabilities. BUSINESS Our marketing model to businesses focuses on targeting customers with Internet and international long distance usage of at least $500 per month. Customers are provided integrated Internet and long distance services with the option of upgrading to our IP-VPN offering as their business needs evolve. Larger businesses are provided with Startec's IP-VPN offering which enables them to benefit from an integrated solution for their voice, video and data communications needs. We employ a sales force of direct and indirect agents to identify and target businesses concentrated in major metropolitan areas. CARRIER WHOLESALE To realize economies of scale in our network operations and to balance our residential traffic flow, we market our excess IP network capacity to international carriers. Since activating our international IP network in 1999, we have garnered 3.9% worldwide wholesale Voice over Internet Protocol (VoIP) market. CUSTOMERS Currently, we market our communication services primarily to three customer groups: (i) residential ethnic communities with significant demand for telephony and Internet connectivity to the emerging economies; (ii) businesses with significant Internet and international long distance usage transacting with the world's emerging economies; and (iii) international long distance carriers. Our residential customers generally are members of ethnic groups that tend to be concentrated in major U.S. metropolitan areas. The number of such customers has grown significantly over the past three years, from 27,797 as of December 31, 1996 to 670,634 as of December 31, 2000. Net revenues from residential customers accounted for approximately 45%, 29% and 33% of our net revenues in the years ended December 31, 2000, 1999 and 1998, respectively. Our business customers generally have Internet and international long distance usage of at least $500 per month. Customers are provided integrated Internet and long distance services with the option of upgrading to our IP-VPN offering as their business needs evolve. They tend to be concentrated in major U.S. metropolitan areas where we can provide on-net access. The number of such customers has grown significantly to over 3,000 customers as of December 31, 2000. We offer wholesale VoIP services to other carriers, which allows us to balance our residential and business customer base and more efficiently use our network capacity. These carrier customers include first-and second-tier international long distance carriers, ISPs and ITSPs seeking competitive rates and high-quality transmission capacity. As of December 31, 2000, we had 87 carrier customers. Revenues from carrier customers accounted for 62%, 72% and 67% of our net revenues in the years ended December 31, 2000, 1999 and 1998, respectively. During the year ended December 31, 2000, our five largest carrier customers accounted for 18% of net revenues. In a number of cases, we provide services to carriers that are also our suppliers. PRODUCTS AND SERVICES RESIDENTIAL CUSTOMERS We provide our ethnic residential customers with the following services: (i) dial-around domestic and international long distance; (ii) dial-1 domestic and international long distance; (iii) a suite of integrated communications services including dial-1 long distance, Internet access; (iv) stand-alone Internet access services; and (v) communications portals. 11 - INTERNATIONAL AND DOMESTIC LONG DISTANCE We provide our residential customers with dial-around and dial-1 long distance service for the U.S. and to all international destinations. Dial-around residential customers access our network by dialing our Carrier Identification Code ("10-10-719") before dialing the number they are calling, enabling them to use our services at any time without changing their existing long distance carrier. Dial-1 residential customers pre-select us as their primary long distance carrier by calling one of our customer service centers. After we obtain a third-party verification of the customer's desire to switch to our long distance service, we notify the local exchange carrier (LEC) that services the customer. The LEC then assigns the customer's home number to our service. We then become the primary carrier for all of their domestic and international long distance calls. We invest substantial resources in identifying and evaluating potential markets for our services. In particular, we seek to identify ethnic groups with demographic profiles that suggest significant potential for high-volume international telecommunications usage. Once a market has been identified, we evaluate the opportunity presented by that market based upon factors that include the credit characteristics of the target group, switching requirements, network access and vendor diversity. Assuming that the target market meets our criteria, we implement marketing programs targeted specifically at that ethnic group, with the goal of generating region-specific international long distance traffic. We market our residential services through a variety of media, including focused print advertising in ethnic newspapers, advertising on ethnic radio and television stations, direct mail, sponsorship of ethnic events and customer referrals. We also sponsor and attend community and cultural events. Once the customer begins to use the services, we routinely monitor usage and periodically communicate with the customer to gauge service satisfaction. We also use proprietary software to assist us in tracking customer satisfaction and a variety of customer behaviors, including, retention and frequency of usage. Our customer service center, which services our residential customer base, is staffed by trained, in-language customer service representatives. Although we are sensitive to the role that the price of long distance service plays in consumer decision-making, we generally do not attempt to be the low-price leader. Instead, we focus on: (i) providing overall value to our customers; (ii) combining competitive pricing with high levels of service; (iii) providing customer representatives fluent in the customers' native languages; (iv) utilizing focused marketing campaigns directed at our customers' ethnic groups; and (v) being involved in our customers' communities through sponsorship of local events and other activities. We believe that this strategy increases usage of our services and enhances customer loyalty and retention. - INTEGRATED COMMUNICATIONS SERVICES In addition to offering long distance services, we evaluate potential new service offerings in order to increase traffic and enhance customer loyalty and retention. In 2000, we introduced a service offering free, unlimited Internet access service for our dial-1 residential customers. This service allows our customers to conveniently pay for both their long distance and Internet access with one bill and to communicate with friends and relatives through the Internet. 12 - STAND-ALONE INTERNET ACCESS We also offer Internet access to residential customers in selected metropolitan area throughout North America through our agreements with Level-3 Communications and Navipath. - COMMUNICATIONS PORTAL Startec has created an online destination for existing and potential customers to access features and services that are tailored to their communications needs. This communications portal serves as a sales channel, designed to attract new residential customers. By creating a robust Internet presence, we hope to strengthen our brand recognition among various ethnic communities and to generate revenue through the use of our communication services (such as dial-around, dial-1 long distance, etc.). We believe we can achieve this objective through the use of agent programs, affinity programs with ethnic-centered organizations, and affiliate programs with other web sites. The communications portal supports our agent programs, which are designed to promote customer referrals. Agents will be compensated for all the accounts that they successfully acquire. The agent program will be powered by the online account management application that is currently in place for our residential customer base, which allows agents to track and monitor the usage of the customer base that they have acquired. Organizations whose members fit the demographic profile that we target in terms of ethnicity and international calling patterns will be able to negotiate affinity agreements with us that will allow them to use the portals capabilities to communicate with their members. The services may include web site design and hosting, interactive communication applications (such as chat and message board functionalities), and e-mail. The organization will be responsible for creating the content for their sites and the portal will present that content, along with advertising and marketing messages aimed at converting the site viewers to sign up for residential dial-1 long distance service. The portal also features an affiliate program, which is similar to the agent program, that allows web site owners to earn revenue based upon the customers that they refer online to us. This program requires that the site owner place a banner advertisement or other link to our online account sign-up application on their web property. The site owner then will be compensated for every individual that they deliver who signs up for (and begins using) our services. BUSINESS CUSTOMERS We provide business customers with voice, data and Internet services. We target two types of business customers: (i) ethnic small and medium-sized enterprises, and (ii) mid-sized business customers with telecommunications expenditures ranging from $2,500 to $25,000 per month. For the small businesses, we have leveraged our ethnic media channels, community relationships and ethnic brand to market our long distance, dial-up Internet access and digital subscriber line (DSL) services. We utilized our in-language call centers to provide full-service customer support and technical assistance. For mid-sized business customers, we provide a full range of communications services, including long distance, dial-up Internet access, domestic and international private line services, IP-virtual private networks, web hosting, collocation, ATM and frame relay services. These customers are serviced by a dedicated nationwide sales team to ensure that they receive a high level of customer service, quality and responsiveness. CARRIER CUSTOMERS To maximize the efficiency of our IP network capacity, we sell our VoIP services to other telecommunications carriers. We have been actively marketing our VoIP services to carrier customers 13 since late 1999. We believe that we have established a high degree of credibility and valuable relationships with the leading carriers. We have a dedicated marketing team serving the carrier market. In addition, we participate in international carrier membership organizations, trade shows, seminars and other events that provide our carrier marketing staff with additional opportunities to establish and maintain relationships with other carriers that are potential customers. We primarily focus our marketing efforts on first-and second-tier international long distance carriers, ISPs and ITSPs. We generally avoid providing services to lower-tiered carriers because of potential difficulties in collecting accounts receivable. Because carrier customers generally are extremely price sensitive, we closely track the prices of competitors serving the carrier market and monitor our own network costs to ensure optimal pricing for our carrier customers. FUTURE SERVICE OFFERINGS We intend to capitalize onour existing customer base and strong brand to increase the amount of residential and corporate customer voice, data and Internet traffic on our network by extending our range of communications services. IP VIRTUAL PRIVATE NETWORKS We intend to extend our IP-VPN offering to France and all other on-net areas covered by our global IP network. We also intend to target selected industry verticals such as the software development, financial services and call center sectors with customized solutions. VALUE ADDED SERVICES We intend to extend the penetration of our domestic and international toll-free, universal messaging, prepaid and postpaid calling cards to our business and residential customers within selected countries served by our global IP network. THE STARTEC GLOBAL NETWORK We provide services through a flexible network of owned and leased transmission facilities, resale arrangements and a variety of operating agreements and termination arrangements, all of which allow us to terminate voice traffic in the over 200 countries that have telecommunications capabilities. We have been expanding our network to match increases in our long distance traffic volume and to support the needs of our customers. Our network employs advanced switching technologies and is supported by monitoring facilities and our technical support personnel. CUSTOMER CALL CENTERS. As part of our dedication to customer service, we operate three customer service centers in Maryland, Guam and France. Each center operates 24 hours a day, seven days a week and accommodates approximately 300 customer service representatives. The Bethesda center supports the languages of the Middle East and Central Europe; the Guam center supports Asian languages, while the French center supports the languages of Western Europe. In total, our customer service centers support over 20 different languages and are supported by the Lucent Definity G3r in a multi-language environment. SUPPORTING TECHNOLOGY. In 2000, we replaced and converted all of our supporting technology, including customer service, billing and office automation processes, to IP transaction-based technology. Upgrading our technology has enabled us to have scalable systems that seamlessly connect to the Internet. We replaced all of our PC-based systems with new systems, using IBM Thin Client Servers for our customer service centers and Oracle databases for our billing and reporting systems. By making these changes in our internal support systems, we created a scalable network and were then able to economically begin offering additional services to our retail customer base in the fall of 1999, such as integrated long distance and Internet access services. 14 We are presently evaluating soft-switch solutions that, once implemented, will allow us to deploy a ubiquitous IP global network. We have been evaluating different solutions to offer a variety of products to the business community. Those solutions involving edge and core devices will allow us to offer value- added services to the business user with a price advantage. SWITCHING AND TRANSMISSION FACILITIES. We continue to build and maintain a state-of-the-art network using a combination of IP and circuit-switched technologies to provide connectivity to the emerging economies of the world, allowing us to integrate voice, data, Internet and video services on a seamless network. Our network currently consists of 13 domestic and international switches located in New York (2), Los Angeles, Miami, London, France (5), Dusseldorf, Vancouver and Guam. Our network also includes approximately 20 Points of Presence (POPs) in the U.S., Canada, Europe and Asia. POPs aggregate traffic originating from the region around the city in which it is located and route the traffic to our international gateway switches. Each POP contains telecommunications equipment that is scalable to accommodate the traffic volume demands of each region. To seize the new opportunities available through the convergence of voice and data traffic, we exploit our IP network, primarily accessing emerging economies. In 1999, we deployed approximately 50 IP gateways with access to 20 countries. We acquired and integrated a second IP network in early 2000 with ten additional IP gateways into our existing IP network. The IP gateways facilitate the transmission of voice and data traffic on our network through packet switching. We plan to continue to enhance our network with IP capabilities in 2001. Installing IP technology throughout our international network facilities provides us with several advantages: (i) it reduces traffic termination costs; (ii) it increases bandwidth utilization on long-haul circuits; (iii) it enables us to offer enhanced services, such as Internet access for select ethnic residential customers in North America, Europe and the Asia Pacific Rim, data and high-speed Internet services for corporate customers and video services and other broadband applications; and (iv) it reduces our reliance on the network facilities of other carriers. We generally install switches, POPs and IP gateways in regions where we believe we can achieve one or more of the following goals: (i) originate voice, data and Internet connections from our own customer base; (ii) transmit voice, data and Internet traffic originated elsewhere on our network to the final destination of the traffic on a more cost-efficient basis; or (iii) terminate voice, data and Internet traffic originated and carried on our own network. We intend to use the switches, POPs and IP gateways to be installed in the U.S., Canada and Europe primarily to carry traffic originated in those areas by our ethnic customer base. Equipment installed in the Asia Pacific Rim, the Middle East and in Latin and South America will be used both as "hubbing" or transit sites and to terminate traffic originated in other locations. In 2000, we completed construction of a data center located in Bethesda, Maryland. This data center, along the three completed during 1999 (New York, Los Angeles and Miami) will allow us to offer Web hosting services, collocation facilities and high-speed Internet connectivity for domestic and international telecommunications carriers and corporate customers in 2001. We plan to open one new data center in India in 2001. We currently have ownership interests through Indefeasible Rights of Usage (IRUs) on 14 cable systems, including the Canus-1, Cantat-3, Columbus II, EurAfrica, Gemini and TAT 12-13, Atlantic Crossing and FLAG cables, and we are a signatory owner on the Columbus III, TAT 14, TCP-5, Guam-Philippines, China-US and Se-Me-We 3 cables. We access additional cables and satellite facilities through arrangements with other carriers. In 2000, we invested in domestic land-based fiber-optic cable facilities linking the European countries. Having an ownership interest rather than a lease interest in cable systems enables us to increase capacity without a significant increase in cost, by utilizing digital compression equipment, which we cannot do under leasing or similar access arrangements. Digital 15 compression equipment enhances the traffic capacity of the undersea cable, which permits us to maximize cable utilization while reducing our need to acquire additional capacity. We enter into lease arrangements and resale agreements with other telecommunications carriers when it is cost effective to do so. We purchase switched-minute capacity from various carriers and depend on such agreements for termination of our traffic. We currently purchase capacity from approximately 75 carriers. Our efforts to build additional switching and transmission capacity are intended to decrease our reliance on leased facilities and resale agreements. We anticipate realizing operational efficiencies and improving margins as traffic across our owned facilities increases. We intend to continue incorporating additional IP capabilities in our network architecture. We are currently using several VoIP vendors in our network and taking advantage of their interoperability. We anticipate realizing lower overall switching and transmission costs and an increase in the types of data and Internet services we can offer to both residential and business customers. OPERATING AGREEMENTS AND OTHER TERMINATION ARRANGEMENTS. We attempt to retain flexibility and maximize our termination options by using a mixture of operating agreements, transit and refile arrangements, resale agreements and other arrangements to terminate our traffic in the destination country. Our approach is designed to enable us to take advantage of the rapidly evolving international telecommunications and Internet markets in order to provide low cost international long distance services and Internet access to our customers. We also intend to leverage our relationships with international Postal, Telephone and Telegraphs (PTTs) and other foreign-based carriers as we begin offering Internet access to customers based in emerging economies. Our strategy is based on our ability to enter into and maintain: (i) operating agreements with PTTs in countries whose telecommunication markets have yet to become liberalized; (ii) operating agreements with PTTs and emerging carriers in foreign countries whose telecommunications markets have liberalized; (iii) resale agreements and transit and refile arrangements to terminate our traffic in countries with which we do not have operating agreements so as to provide us with multiple options for routing traffic; and (iv) interconnection agreements with PTTs in each of the countries where we plan to have operating facilities. As of December 31, 2000, we had approximately 88 operating agreements, of which 47 were fully activated. These operating agreements enable us to terminate traffic at lower rates than by resale in markets where we cannot establish an on-net connection due to the current regulatory environment. We believe that we would not be able to serve our customers at competitive prices without such operating or interconnection agreements. In addition, these operating agreements provide a source of profitable return traffic for us. Termination of such operating agreements by certain foreign carriers or PTTs could have a material adverse effect on our business. NETWORK OPERATIONS AND TECHNICAL SUPPORT. During 2000, we introduced automatic test equipment in our network to provide us with proactive measurements on quality of service. The introduction of this equipment created for us significant efficiencies on our overall quality and response time. We use proprietary routing software to maximize routing efficiency. Network operations personnel continually monitor pricing changes by our carrier-suppliers and adjust call routing to make cost efficient use of available capacity. In addition, we provide 24-hour network monitoring, trouble reporting and response procedures, service implementation coordination and problem resolution, and have developed and implemented proprietary software that enables us to monitor, on a minute-by-minute basis, all key aspects of our services. Recent software upgrades and additional network monitoring equipment have been installed to enhance our ability to handle increased traffic and monitor network operations. While we perform the majority of the maintenance of our network, we also have service and support agreements with our vendors of IP and Time Division Multiplexing (commonly called TDM, this is the technology employed in our switches) technology covering our major hubs in New York, Los Angeles, Miami, London, Paris and Dusseldorf. We depend upon third parties with respect to the maintenance of leased facilities and fiber-optic cable lines in which we have an IRU or other use arrangements. 16 We utilize highly automated state-of-the-art telecommunications equipment in our network and have diverse alternate routes available in cases of component or facility failure, or in the event that cable transmission wires are inadvertently cut. Back-up power systems and automatic traffic re-routing enables us to provide a high level of reliability for our customers. Computerized automatic network monitoring equipment allows fast and accurate analysis and resolution of network problems. In general, we rely upon the utilization of other carriers' networks to provide redundancy in the event of technical difficulties in the network. We believe that this is a more cost effective strategy than purchasing or leasing our own redundancy systems. MANAGEMENT INFORMATION AND BILLING SYSTEMS Our Operation Support Systems (OSS) consists of internally developed Customer Relationship Management (CRM) and Billing Systems and a combination of off the shelf and vendor-developed and customized Network Management System (NMS). The web enabled Customer Care and Billing Systems are developed in Java and Oracle. They are deployed on the Startec intranet for Customer Support Center to service Startec customers and on the web for Startec Customer self-service. For managing circuit switched network elements on the Startec network we have deployed a system developed and customized by Israel's Team Telecom Inc. HP OpenView along with network element managers such as CiscoWorks are used to manage the data network. The CRM system provides customer subscription to retail, SME and wholesale products. Retail customers can either call into the customer support center or subscribe themselves on the web. The application is written in Java using servlets and Java Server Pages (JSPs). The customer and related data is stored in an Oracle relational data base. The application uses Java Data Base Connection (JDBC) driver to access the data in Oracle. The CRM system supports flow-through provisioning. When a customer subscribes to a product it automatically provisions the customer on to the appropriate switches and systems. The CRM supports individual and bundled products, rate management, customer usage information management, Internet and paper invoicing, collection and aging management, discount plans and provides a variety of reports for customer service supervisors. The rating engine supports rating retail, wholesale and SME Call Data Records (CDRs). Among its capabilities include support for flat rates, time of day and day of the week rates, tiered rates, inter/ intra Lata/State rates, international country and city specific rates, call connection fee. We collect CDRs every hour and rate them once a day. In addition to rating the CDRs for revenue, the rating engine also determines cost and margin on a call by call basis. Sophisticated management decision reports are generated daily from the revenue, cost and margin output of the rating engine. Our residential customers have the option of being billed through the Local Exchange Carrier (LEC) or being direct billed via the Internet or on paper. SME and wholesale customers are sent paper bills. Residential and SME customers have the ability to view their invoices and usage on the Internet. LEC billing is done utilizing a third party billing company that has arrangements with the LECs. NMS enables our Network Operations Center (NOC) to manage, route and terminate traffic efficiently through our network onto its destinations. Capacity and termination statistical reports generated regularly by the NMS are used for traffic routing and network planning. NMS also provides sophisticated audio and visual alerts and error correlation to isolate faults as they happen in real-time. We maximize our margins by applying the results of our sophisticated proprietary Least Cost Routing (LCR) software to route traffic in and out of our network. COMPETITION As a provider of IP-based voice and data services, we compete with companies in the domestic and international telecommunications industries. Our success depends upon our ability to compete with a 17 variety of service providers within each area in the United States and in each of our international markets. These service providers include large, facilities-based multinational carriers in North America and Europe, such as AT&T, WorldCom, British Telecom, France Telecom and Deutsche Telecom. We must also compete with smaller facilities-based wholesale long distance service providers in the United States and overseas that have emerged as a result of deregulation, switch-based resellers of international long distance and the respective PTT in each country in which we operate or plan to operate in the future. As local exchange carriers are gradually permitted to enter the long distance market under the Telecommunications Act of 1996, we expect to experience additional competition from carriers such as Bell Atlantic and SBC Communications. International telecommunications providers compete on the basis of price, customer service, transmission quality, breadth of service offerings and value-added services. Residential customers frequently change long distance carriers in response to competitors' offerings of lower rates or promotional incentives. Our carrier customers generally use the services of a number of international long distance companies, and are especially price sensitive. In addition, many of our competitors enjoy economies of scale that can result in a lower cost structure for termination and network costs, which could cause significant pricing pressures within the international communications industry. Several long distance carriers in the United States have introduced pricing strategies that provide for fixed, low rates for both international and domestic calls originating in the United States. Such a strategy, if widely adopted, could have an adverse effect on our business, financial condition and results of operations if increases in telecommunications usage do not result or are insufficient to offset the effects of such price decreases. In recent years, competition has intensified causing prices for international long distance services to decrease substantially. Prices are expected to continue todecrease in most of the markets in which we currently compete. We believe, however, that these reductions in prices have been and will continue to be more than offset by reductions in our cost of providing such services. THE INTERNATIONAL TELECOMMUNICATIONS INDUSTRY The international telecommunications industry involves the origination of voice and data transmissions in one country and the termination of such transmissions in another country. The significant growth in the usage of international telecommunications services has resulted in the industry undergoing a period of fundamental change. The international market can be divided into two major segments: The U.S.-originated market, which consists of all international calls that either originate or are billed in the United States, and the overseas market, which consists of all calls billed outside the United States. We believe that the international telecommunications market will continue to grow for the foreseeable future because of the following developments and trends: GLOBAL ECONOMIC DEVELOPMENT AND INCREASING DEMAND FOR TELECOMMUNICATIONS SERVICES. The continuing increase in the number of telephone lines, as well as global economic development, various government initiatives and technological advancements, are expected to lead to increased demand for international telecommunications services. LIBERALIZATION OF TELECOMMUNICATIONS MARKETS AND REGULATION. The continuing liberalization and privatization of telecommunications markets and the movement toward deregulation has provided, and continues to provide, opportunities for new carriers who desire to penetrate those markets. REDUCED RATES CREATING HIGHER TRAFFIC VOLUMES. The reduction of outbound international long distance rates, resulting from increased competition and technological advancements continues to make, international calling available to a much larger customer base, thereby creating an increase in traffic volumes. 18 INCREASED CAPACITY. The increased availability of higher-quality digital undersea fiber-optic cable has enabled international long distance carriers to improve service quality while reducing costs. POPULARITY AND ACCEPTANCE OF TECHNOLOGY. The widespread use of communications devices, including cellular telephones, and facsimile machines, as well as the increased use of the Internet has led to a general increase in the use of communications services and stimulated demand for faster transmission of data. Liberalization of communications markets and deregulation has encouraged competition, which in turn has prompted carriers to offer a wider selection of products and services at lower prices. This same process has occurred and is occurring elsewhere around the world, including in most EU nations, several Latin American nations and certain Asian nations. In recent years, prices for international long distance services have decreased substantially and are expected to continue to decrease in many of the markets in which we currently compete. Several long distance carriers in the United States have introduced pricing strategies that provide for fixed, low rates for both domestic and international calls originating in the United States. We believe that revenue losses resulting from competition-induced price decreases can be offset by cost reductions. We believe that as settlement rates and costs for leased capacity continue to decline, international long distance will continue to provide high revenues and gross margin per minute. INTERNATIONAL SWITCHED LONG DISTANCE SERVICES International switched long distance services are provided through switching and transmission facilities that automatically route calls to circuits based upon a predetermined set of routing criteria. In the United States, an international long distance call typically originates on a local exchange carrier's network and is transported to the caller's domestic long distance carrier. The domestic long distance carrier picks up the call and carries the call to its own or another carrier's international gateway switch, where an international long distance provider picks it up and sends it directly or through one or more other long distance providers to a corresponding gateway switch in the destination country. Once the traffic reaches the destination country, it is routed to the party being called through that country's domestic telephone network. International long distance carriers are often categorized according to ownership and use of transmission facilities and switches. No carrier uses only facilities that it owns for transmission of all of its long distance traffic. Carriers vary from being primarily facilities-based, meaning that they own and operate their own land-based and/or undersea cable, satellite-based facilities and switches, to those that are purely resellers of other carrier's transmission capacity. The largest U.S.-based carriers, such as AT&T, Sprint and MCI/WorldCom, are primarily facilities-based and may transmit some of their overflow traffic through other long distance providers, such as Startec. Only very large carriers have the transmission facilities and operating agreements necessary to cover the over 200 countries to which major long distance providers generally offer service. A significantly larger group of long distance providers own and operate their own switches but use a combination of resale agreements with other long distance providers and leased and owned facilities to transmit and terminate traffic, or rely solely on resale agreements with other long distance providers. Under Accounting Rate Mechanisms, which has been the traditional model for handling traffic between international carriers, traffic is exchanged under bilateral carrier agreements, or operating agreements, between carriers in two countries. Operating agreements generally are three to five years in length and provide for the termination of traffic in, and return of traffic to, the carriers' respective countries at a negotiated accounting rate, known as the Total Accounting Rate ("TAR"). In addition, operating agreements provide for network coordination and accounting and settlement procedures between the carriers. Settlement costs, which typically equal one-half of the TAR, are the fees owed to another international carrier for transporting traffic on its facilities. Settlement costs are reciprocal between 19 each party to an operating agreement at a negotiated rate (which must be the same for all U.S.-based carriers, unless the Federal Communications Commission (FCC) approves an exception). Additionally, the TAR is the same for all carriers transporting traffic into a particular country, but varies from country to country. The term "settlement costs" arises because carriers essentially pay each other on a net basis determined by the difference between inbound and outbound traffic between them. Under a typical operating agreement, each carrier owns or leases its portion of the transmission facilities between two countries. A carrier gains ownership rights in digital undersea fiber-optic cables by: (i) purchasing direct ownership in a particular cable (usually prior to the time the cable is placed into service); (ii) acquiring an IRU in a previously installed cable; or (iii) by leasing or otherwise obtaining capacity from another long distance provider that has either direct ownership or IRUs in a cable. In situations in which a long distance provider has sufficiently high traffic volume, routing calls across cable that is directly owned by a carrier or in which a carrier has an IRU is generally more cost-effective than the use of short-term variable capacity arrangements with other long distance providers or leased cable. Direct ownership and IRUs, however, require a carrier to make an initial capital commitment based on anticipated usage. In addition to using traditional operating agreements, an international long distance provider may use transit arrangements, resale arrangements and alternative transit/termination arrangements. TRANSIT ARRANGEMENTS. Transit arrangements involve a long distance provider in an intermediate country carrying the long distance traffic originating in a second country to its destination in a third country. These arrangements require an agreement among the carriers in each of the countries involved in the transmission and termination of the traffic, and are generally used for overflow traffic or in cases in which a direct circuit is unavailable or not volume justified. RESALE ARRANGEMENTS. Resale arrangements typically involve the wholesale purchase and sale of transmission and termination services between two long distance providers on a variable, per-minute basis. The sale of capacity was first permitted as a result of the deregulation of the U.S. telecommunications market, and has fostered the emergence of alternative international long distance providers that rely, at least in part, on transmission capacity acquired on a wholesale basis from other long distance providers. A single international call may pass through the facilities of multiple resellers before it reaches the foreign facilities-based carrier that ultimately terminates the call. Resale arrangements set per-minute prices for different routes, which may be guaranteed for a set period of time or may be subject to fluctuation following notice. The international long distance resale market is continually changing as new long distance resellers emerge and existing providers respond to changing costs and competitive pressures. ALTERNATIVE TRANSIT/TERMINATION ARRANGEMENTS. As the international long distance market has become increasingly competitive as a result of deregulation and other factors, long distance providers have developed alternative transit/termination arrangements in an effort to decrease their costs of terminating international traffic. Some of the more significant of these arrangements include international simple resale (ISR), refiling and ownership of transmission and switching facilities in foreign countries, which enables a provider to terminate its traffic on its own facilities. Under ISR, a long distance provider completely bypasses the accounting rates system by connecting an international leased private line to the public switched telephone network of a foreign country or directly to the premises of a customer or foreign partner. Although ISR is currently sanctioned by United States and other applicable regulatory authorities only on some routes, ISR services are increasing and are expected to expand significantly as liberalization continues in the international telecommunications industry. As with transit arrangements, refiling involves the use of an intermediate country to carry the long-distance traffic originating in a second country to the destination third country. However, the key difference between transit and refiling arrangements is that under a transit arrangement the operator in the destination country has a direct relationship with the originating operator and is aware of the transit arrangement, while with refiling, the operator in the destination country typically is not aware that the received traffic originated in another 20 country with another carrier. Refiling of traffic takes advantage of disparities in settlement rates between different countries by allowing traffic to a destination country to be treated as if it originated in another country which enjoys lower settlement rates with the destination country, thereby resulting in a lower overall termination cost. In addition, new market access agreements, such as the World Trade Organization (WTO) Agreement, have made it possible for many international long distance providers to establish their own switching facilities in certain foreign countries, allowing them to directly terminate traffic, including traffic which they have originated. DEVELOPMENTS IN THE INTERNET INDUSTRY. The Internet is an interconnected global computer network of tens of thousands of packet-switched networks using IP. Technology trends over the past decade have removed the distinction between voice and data segments. Traditionally, voice conversations have been routed on analog lines. Today, voice conversations are routinely converted into digital signals and sent together with other data over high-speed lines. In order to satisfy the high demand for low-cost communication, software and hardware developers began to develop technologies capable of allowing the Internet to be utilized for voice communications. Several companies now offer services that provide real-time voice conversations over the Internet (Internet Telephony). Current Internet Telephony does not provide comparable sound quality to traditional long distance service. The sound quality of Internet Telephony, however, has improved over the past few years and is expected to reach toll-quality standards in the near future. The FCC and most foreign regulators have not yet attempted to regulate the companies that provide the software and hardware for Internet Telephony, the access providers that transmit their data, or the service providers, as common carriers or telecommunications services providers. Therefore, the existing systems of access charges and international accounting rates, to which traditional long distance carriers are subject, are not imposed on providers of Internet Telephony services. As a result, such providers may offer calls at a significant discount to standard international calls. GOVERNMENT REGULATION OVERVIEW Our business is subject to varying degrees of regulation by United States regulatory authorities at the federal and state level, as well as by foreign regulatory authorities. In recent years, the regulation of the telecommunications industry has been in a state of flux as a result of the passage of new laws seeking to foster greater competition in telecommunications markets. In particular, Congress made comprehensive amendments to the Communications Act of 1934, in the Telecommunications Act of 1996. The purpose of the 1996 Act is to promote competition in all areas of telecommunications by reducing unnecessary regulation at both the federal and state levels to the greatest extent possible. State legislatures also have passed new laws increasing competition. The FCC and state public service commissions (PSCs) have adopted many rules to implement new legislation and encourage competition. These changes have created new opportunities for us and our competitors. U.S. federal laws, including common carriage requirements under the 1934 Act and the FCC's rules, apply to our international and interstate facilities-based and resale telecommunications services. Applicable PSCs have jurisdiction under separate state statutes over telecommunications services originating and terminating within the same state. The FCC and the PSCs generally have the authority to condition, modify, cancel, terminate or revoke our operating authority for failure to comply with federal and state laws and applicable rules, regulations and policies. Fines or other penalties also may be imposed for such violations. In addition, the FCC and one or more states possesses the ability to regulate our rates and the terms and conditions under which we offer service. Any such action by the FCC and/or the PSCs could have a material adverse effect on our business, financial condition and results of operations. 21 In addition, the laws of other countries directly apply only to carriers doing business in those countries. We are affected indirectly by such laws insofar as it is doing business in foreign countries, and indirectly to the extent that such laws affect foreign carriers with which we do business. The following summary of regulatory developments and legislation does not purport to describe all present and proposed U.S. or foreign regulations and legislation affecting the telecommunications industry. Other existing regulations are currently the subject of judicial proceedings, legislative hearings or administrative proposals which could change, in varying degrees, the manner in which this industry operates. Neither the outcome of these proceedings, nor their impact upon the telecommunications industry or us can be predicted at this time. There can be no assurance that future regulatory judicial and legislative changes will not have a material adverse effect on us, that U.S. or foreign regulators or third parties will not raise material issues with regard to our compliance or noncompliance with applicable laws and regulations, or that regulatory activities will not have a material adverse effect on our business, financial condition and results of operations. BILATERAL AGREEMENTS On February 15, 1997, the United States and 68 other countries signed the WTO Agreement and agreed to open their telecommunications markets to competition and foreign ownership starting January 1, 1998. The signatories represent approximately 90% of worldwide telecommunications traffic. We believe that the WTO Agreement will provide us with significant opportunities to compete in markets we could not previously access and provide facilities-based services. U.S. FEDERAL REGULATION The FCC's rules implementing the WTO Agreement, which took effect on February 9, 1998, generally ease restrictions on entry by foreign telecommunications carriers from WTO member countries into the U.S. and streamline FCC regulation of such carriers. The FCC's new policies implementing the WTO Agreement also address the applicability to companies from WTO member and non-member countries of equivalency and other reciprocity principles regarding international facilities-based and resale services, foreign ownership limitations and foreign carrier entry into the U.S. market. At the same time, telecommunications markets in many foreign countries are expected to be significantly liberalized, creating additional competitive market opportunities for U.S. telecommunications businesses such as us. Although many countries have agreed to make certain changes to increase competition in their respective markets, there can be no assurance that countries will enact or implement the legislation required to effect the changes to which they have committed in a timely manner or at all. Failure by a country to meet commitments made under the WTO Agreement may give rise to a cause of action for the injured foreign countries to file a complaint with the WTO. International telecommunications carriers are required to obtain authority from the FCC under Section 214 of the Communications Act in order to provide international service that originates or terminates in the United States. In 1989, we received Section 214 authority from the FCC to acquire and operate satellite facilities for the provision of direct international service to Italy, Israel, Kenya, India, Iran, Saudi Arabia, Pakistan, Sri Lanka, South Korea and the United Arab Emirates. We are also authorized to resell services of other common carriers for the provision of switched voice, telex, facsimile and other data services, and for the provision of INTELSAT business services and international television services to various overseas points. On August 27, 1997, we were granted global facilities-based Section 214 authority under new FCC streamlined processing rules adopted in 1996 for international carriers. We are classified by the FCC as a non-dominant carrier on international and domestic routes. A facilities-based global Section 214 authorization enables us to provide international basic switched, private line, data, television and business services using authorized facilities to virtually all countries in the world. In March 1999, the FCC once again streamlined its rules for licensing and regulating international carriers. Among other 22 things, under the most recent rules a carrier with global Section 214 authorization for facilities-based services will be allowed to utilize any foreign submarine cable system in its provision of facilities-based international services without additional authorization. The FCC has adopted a rebuttable presumption in favor of the provision of switched services over interconnected private lines (international simple resale or ISR) to WTO member countries. The FCC will authorize the provision of ISR between the U.S. and a WTO member country if either the settlement rates for at least 50 percent of the settled U.S.-billed traffic between the U.S. and that country are at or below the FCC's benchmark settlement rate for that country, or the country satisfies the FCC's test for equivalent ISR policies. The FCC will authorize ISR between the U.S. and a non-WTO member country only if both the settlement rates for at least 50 percent of the settled U.S.-billed traffic between the U.S. and that country are at or below the FCC's benchmark settlement rate for that country, and the country satisfies the FCC's equivalency test. Pursuant to FCC rules and policies, our authorization to provide service via ISR will be expanded automatically to include countries subsequently approved by the FCC for ISR. We must also conduct our international business in compliance with the FCC's international settlements policy ("ISP"). The ISP requires: (1) the equal division of the accounting rate between the U.S. and foreign carrier; (2) nondiscriminatory treatment of U.S. carriers (all U.S. carriers must receive the same accounting rate, with the same effective date); and (3) proportionate return of inbound traffic. The FCC has removed the ISP for: (1) settlement arrangements between U.S. carriers and foreign telecommunications carriers that lack market power; and (2) all settlement arrangements on routes where U.S. carriers are able to terminate at least 50 percent of their U.S. billed traffic in the foreign market at rates that are at least 25 percent below the applicable benchmark settlement rate. Thus far, only eleven international routes have been deemed to satisfy the criteria from relief from the ISP and associated filing requirements. The exempt routes include: Canada, Denmark, France, Germany, Hong Kong, Ireland, Italy, The Netherlands, Norway, Sweden, and United Kingdom. Consistent with its pro-competition policies, the FCC has prohibited U.S.-based carriers from agreeing to accept special concessions from any foreign carrier or administration with market power. A special concession is any arrangement that affects traffic flow to or from the U.S. that is offered exclusively by a foreign carrier or administration to a particular U.S. carrier that is not offered to similarly situated U.S. carriers authorized to serve a particular route. The foregoing rule does not apply to the rates, terms and conditions in an agreement between a U.S. carrier and a foreign carrier that govern the settlement of international traffic, including the method for allocating return traffic, if the international route is exempt from the ISP. We intend, where possible, to take advantage of lowered accounting rates and more flexible settlement arrangements. As of December 31, 1999, we had operating agreements and interconnection arrangements with carriers in approximately 50 countries, primarily in emerging economies. FCC regulations require that U.S. international telecommunications carriers file copies of their contracts with dominant foreign carriers, including operating agreements, with the FCC within 30 days of execution. We have filed, or will file, operating agreements with the FCC as required. The FCC's rules also require us to file periodically a variety of reports regarding its international traffic flows and use of international facilities. We have on file, and maintain with the FCC, annual circuit status reports and traffic data reports. The FCC recently eliminated the requirement that non-dominant carriers file tariffs for most international interexchange services. There are four types of international service that international carriers must still tariff: (1) international dial-around services; (2) inbound international collect calls; (3) "on-demand" mobile satellite services; and (4) services to new customers that choose their long distance provider through their local service provider (for the first 45 days of service or until there is a contract between the customer and the long distance provider, whichever occurs first). The FCC is currently considering whether to limit or prohibit the practice whereby a carrier routes, through its facilities in a third country, traffic originating from one country and destined for 23 another country. The FCC has permitted third country calling where all countries involved consent to this type of routing arrangements, referred to as "transiting." Under certain arrangements referred to as "refiling," the carrier in the destination country does not consent to receiving traffic from the originating country and does not realize the traffic it receives from the third country is actually originating from a different country. The FCC to date has made no pronouncement as to whether refile arrangements comport either with U.S. or ITU regulations. It is possible that the FCC may determine that refiling, as defined, violates U.S. and/or international law. To the extent that our traffic is routed through a third country to reach a destination country, such an FCC determination with respect to transiting and refiling could have a material adverse effect on our business, financial condition and results of operations. The FCC also regulates the ability of U.S.-based international carriers affiliated with foreign carriers to serve markets where the foreign affiliate is dominant. Previously, U.S. carriers were required to report any investment by a foreign carrier of 10% or greater, and we reported the only foreign carrier investment in us at the time, an affiliate of Portugal Telecom. Under the FCC's new rules implementing the WTO Agreement, which took effect on February 9, 1998 the threshold for notification of affiliations with foreign carriers has been increased to 25%. Under the new rules, we are affiliated with Global Communications GmbH, a licensed carrier in Germany, and Phone Systems and Network, S.A., a licensed carrier in France. The FCC considers a foreign-affiliated U.S. carrier to be dominant on foreign routes where the foreign affiliate is a monopoly or has more than 50 percent market share in international or local telecommunications. None of the carriers with which we are affiliated are considered dominant in their foreign markets, and we are not regulated as dominant on any international route. In September 1999, the FCC adopted a policy allowing United States users of International Telecommunications Satellite Organization (INTELSAT) satellite services to have direct access to the INTELSAT system. The policy is designed to promote competition in international satellite communications and strengthens the competitiveness of U.S. carriers and service providers in the global communications market. Previously, U.S. users had to go through Comsat Corporation (Comsat) exclusively to gain access to INTELSAT. Interexchange carriers, broadcast networks, and earth station operators will now be able to order, receive, and pay INTELSAT for use of satellite services at the same rates that INTELSAT charges its Signatories. As a result, U.S. companies will be able to compete on a level playing field with foreign companies that already have direct access to the INTELSAT system. The new policy may also put competitive pressure on Comsat rates and the rates of competing satellite operators, and enhance the ability of U.S. carriers to compete globally with their counterparts that obtain capacity directly from INTELSAT. The FCC may condition, modify or revoke any of the Section 214 authorizations granted to us for violations of the Communications Act, the FCC's rules and policies or the conditions of those authorizations or may impose monetary forfeitures for such violations. Any such action on the part of the FCC may have a material adverse effect on our business, financial condition and results of operations. INTERNET SERVICES, INTERNET TELEPHONY AND ADVANCED SERVICES In the U.S., Internet services, including voice communications over the Internet or Internet telephony, currently are treated as information services and may be provided on an unregulated basis. In December 1996, the FCC initiated a Notice of Inquiry (the "Internet NOI") regarding whether to impose regulations or surcharges upon providers of Internet access and information services. The Internet NOI specifically identifies Internet telephony as a subject for FCC consideration. This proceeding remains pending. In April 1998, the FCC filed a report with Congress stating that Internet access falls into the category of information services, and should not be subject to common carrier regulation, including the obligation to pay access charges, but that the record suggests that some forms of Internet services may be more like telecommunications services than information services, and possibly should be subject to common carrier regulation. To our knowledge, there are no domestic and only a few foreign laws that prohibit voice communications over the Internet. 24 In addition, several efforts have been made to enact federal legislation that would either regulate or exempt from regulation services provided over the Internet. State PSCs may also retain jurisdiction to regulate the provision of intrastate Internet telephone services. If Congress, the FCC, or a state utility commission begins to regulate Internet telephony, there can be no assurances that any such regulation will not materially adversely affect our business, financial condition or results of operations. Similarly, certain foreign governments have begun to consider more closely the regulatory status of Internet services, especially Internet telephony. We cannot predict the likelihood that U.S. federal or state authorities or foreign governments will impose additional regulation on our Internet-related services, nor can we predict the impact that future regulation will have on our operations. In September 1999, the FCC initiated a notice of inquiry regarding voice over Internet telephony (both computer to computer and phone to phone Internet telephony) seeking comment on the availability of Internet telephony, the extent it has begun to replace traditional telecommunications services, the percentage of disabled persons who utilize Internet telephony, and whether it falls under the purview of Section 255 of the Telecommunications Act. Section 255 of the Telecommunications Act requires a provider of telecommunications service to ensure that its service is accessible and usable by persons with disabilities, if readily achievable. Our operations could be materially impacted if the FCC decides to adopt rules subjecting Internet telephony to the requirements of Section 255 since it would require us to ensure that our Internet telephony services are compatible with telecommunications devices used by the disabled. INTERSTATE INTEREXCHANGE SERVICES Our provision of domestic long distance service in the United States is subject to regulation by the FCC and certain state PSCs, who regulate to varying degrees interstate and intrastate rates, respectively, ownership of transmission facilities, and the terms and conditions under which our domestic services are provided. We must comply with the requirements of common carriage under the Communications Act. Pursuant to the Communications Act, we are subject to the general requirement that our charges and regulations for communications services must be "just and reasonable" and that we may not make any "unjust or unreasonable discrimination" in our charges or regulations. Carriers like us also are subject to a variety of miscellaneous regulations that, for instance, govern the documentation and verifications necessary to change a consumer's long distance carrier, require the filing of periodic reports, and restrict interlocking directors and management. We have also filed domestic long distance tariffs with the FCC. Effective July 31, 2001, carriers are required to detariff their domestic interexchange services. However, carriers may file tariffs for dial-around 1+ services or "casual calling" services and for services provided to new customers until a written contract is executed, but for no longer than 45 days. The casual calling services that may continue to be tariffed are those services for which the customer and carrier do not have an underlying contractual relationship because of the unique technological concerns with dial- around services that are not conducive to the establishment of a written contract. The 1996 Act directs the FCC, in cooperation with state regulators, to establish a Universal Service Fund ("USF") that will provide subsidies to carriers that provide service to under-served individuals and in high cost areas. A portion of carriers' contributions to the USF also will be used to provide telecommunications related facilities for schools, libraries and certain rural health care providers. Implementation of the subsidy will increase burdens on interexchange carriers that must contribute to the USF. The FCC, however, allows interexchange carriers to pass these charges through to their customers. Additionally, any entity otherwise required to contribute to the federal universal service fund whose interstate end-user telecommunications revenues comprise less than 8% of its combined interstate and international end-user telecommunications revenues shall contribute to the fund based only on such entity's interstate end-user telecommunications revenues. Based upon our domestic interexchange revenues, we have applied to the FCC for a waiver of USF contribution requirements. We cannot predict the likelihood that its request will be granted. 25 OTHER LEGISLATIVE AND REGULATORY INITIATIVES The 1996 Act is designed to promote local competition through state and federal deregulation. As part of its pro-competitive policies, the 1996 Act frees the Regional Bell Operating Companies (RBOCs) from the judicial orders that prohibited their provision of long distance services outside of their operating territories (LATAs). The 1996 Act provides specific guidelines that allow the RBOCs to provide long distance inter-LATA service to customers inside its region, subject to a demonstration to the FCC and state regulators that the RBOC has opened up its local network to competition and met a "competitive checklist" of requirements designed to provide competing network providers with nondiscriminatory access to the RBOC's local network. Some RBOCs have filed applications with various state public utility commissions and the FCC seeking approval to offer in-region interLATA service. Some states have denied these applications while others have approved them. To date, the FCC has approved four RBOC Section 271 applications to provide long distance telephone service. Other Section 271 applications are pending. To originate and terminate calls in connection with providing their services, long distance carriers like us must purchase "access services" from ILECs or CLECs. Access charges represent a significant portion of our cost of U.S. domestic long distance services and, generally, such access charges are regulated by the FCC for interstate services and by PSCs for intrastate services. In May 1997, the FCC released an order that fundamentally restructured the "access charges" that ILECs charge to interexchange carriers and end user customers. Appeals by numerous parties were denied by the Eighth Circuit Court of Appeals on August 19, 1998. Subsequently, the FCC proposed various measures to accelerate reductions in ILEC access charges and to give ILECs increased flexibility to set prices in response to competition. Together, these actions could significantly reduce the prices of ILEC access services to us, as well as to our competitors. In August 1999, the FCC revised its rules that govern the provision of interstate access services by those local exchange carriers (LECs) subject to price cap regulation. The FCC implemented a market-based approach, pursuant to which price cap LECs would receive pricing flexibility in the provision of interstate access services as competition for those services develops. The Order granted immediate pricing flexibility to price cap LECs in the form of streamlined introduction of new services, geographic deaveraging of rates for services in the trunking basket, and removal, upon implementation of toll-dialing parity, of certain interstate interexchange services from price cap regulation. It also established a framework for granting price cap LECs greater flexibility in the pricing of all interstate access services once they satisfy certain competitive criteria. Pursuant to a two-phase introduction, the FCC will (1) allow price cap LECs to offer contract tariffs and volume and term discounts for those services for which they make a specific competitive showing, and (2) permit price cap LECs to offer dedicated transport and special access services free rate structure and price cap rules, provided that the LECs can demonstrate a significantly higher level of competition for those services. The FCC also issued a Notice of Proposed Rulemaking seeking comment on proposals for geographic deaveraging of the rates for services in the common line and traffic-sensitive baskets. The FCC denied a petition for declaratory ruling filed by AT&T requesting that the FCC confirm that interexchange carriers may elect not to purchase switched access services offered under tariff by competitive local exchange carriers. While the FCC declined to address AT&T's concerns in a declaratory ruling it did find that AT&T's petition and supporting comments suggest a need for the FCC to revisit the issue of CLEC access rates. Therefore, it initiated a rulemaking regarding the reasonableness of these charges and whether the FCC might adopt rules to address, by the least intrusive means, any failure of market forces to constrain CLEC access charges. 26 The Internet is also the subject of an increasing number of laws and regulations. These laws and regulations may relate to liability for information retrieved from or transmitted over the Internet, online content regulation, user privacy, taxation and the quality of products and services. In particular: - Children's Online Privacy Protection Act of 1998. The Act makes it unlawful for an operator of a web site or online service directed to children under 13 to collect, use or distribute personal information from a child under 13 without prior verifiable parental consent. - Protection of Children from Sexual Predators Act of 1998. This Act mandates that electronic communication service providers report facts or circumstances from which a violation of child pornography laws is apparent. - Digital Millennium Copyright Act of 1998. This Act establishes limited liability for online copyright infringement by online service providers for listing or linking to third-party web sites that include copyright-infringing materials. Because judicial interpretation of these laws is nascent, their applicability and reach are not yet clearly defined. Nonetheless, these laws have imposed significant additional costs on our business, prompting us to change our operating methods and business model. Moreover, the applicability to the Internet of existing laws governing issues such as intellectual property ownership, copyright, defamation, obscenity and personal privacy is uncertain and developing. The Company may be subject to claims that our services violate such laws. Any new legislation or regulation in the United States or abroad or the application of existing laws and regulations to the Internet could damage our business. STATE REGULATION INTRASTATE SERVICES Section 253 of the 1996 Act prohibits states and localities from adopting or imposing any legal requirement that may prohibit, or have the effect of prohibiting, the ability of any entity to provide any interstate or intrastate telecommunications services. The FCC has the authority to preempt any such state or local requirements to the extent necessary to enforce the open market entry requirements of the 1996 Act. States and localities may, however, continue to regulate the provision of intrastate telecommunications services, and, presumably, require carriers to obtain certificates or licenses before providing service. Generally we are required to obtain certification from the relevant state PSC prior to the initiation of intrastate service and to file tariffs with such states. Through our subsidiary, Startec Global Licensing Company, we are currently authorized (or certification is not required) to provide service in 40 states and the District of Columbia. Additional applications for approval are pending in three states. In some states where we are already certified, we are seeking or may seek modification of our certification to provide facilities-based, in addition to resale, services. Although we intend and expect to obtain operating authority in each jurisdiction in which operating authority is required, there can be no assurance that one or more of these jurisdictions will not deny our request for operating authority. Any failure to maintain proper state certification or tariffs, or any difficulties or delays in obtaining required certifications could have a material adverse effect on our business, financial condition and results of operations. Many states also impose various reporting requirements and/or require prior approval for transfers of control of certified carriers, corporate reorganizations, acquisitions of telecommunications operations, assignments of carrier assets, carrier stock offerings, and incurrence by carriers of significant debt obligations. Certificates of authority can generally be conditioned, modified, canceled, terminated, or revoked by state regulatory authorities for failure to comply with state law and/or the rules, regulations, and policies of the PSCs. Fines and other penalties also may be imposed for such violations. Any such action by the PSCs could have a material adverse effect on our business, financial 27 condition and results of operations. As we expand our operations into other states, we may become subject to the jurisdiction of their respective PSCs for certain services offered by us. We monitor regulatory developments in all 50 states to ensure regulatory compliance. FOREIGN REGULATION EUROPEAN UNION As we have expanded our operations into Europe, it has become subject to the regulations established by various European governments. These regulations, in turn, are evolving within the context of a European-wide telecommunications framework established by the European Commission (EC) for the entire European Union (EU). The EU consists of the following fifteen member states: Austria, Belgium, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg, the Netherlands, Portugal, Spain, Sweden and the United Kingdom. Our expansion into any EU country may be directly or indirectly affected by the EC regulatory framework. EU member states are required to implement directives issued by the EC authorities (the EU Commission and the Council of the European Union) by passing national legislation. If an EU member state fails to effect such directives with national (or, as the case may be, regional, community or local) legislation and/or fails to render the provisions of such directives effective within its territory, the EC may take action against the EU member state, including proceedings before the European Court of Justice, to enforce the directives. The EC and Council of the EU have issued a number of key regulations and directives establishing basic principles for the liberalization of the EU telecommunications market. The general framework for this liberalized environment has been set out in the EC's Services Directive. The Services Directive sets out principles relating to restrictions on the number of licenses permitted and to procedures, fees, essential requirements and appeals. The Services Directive directs EU member states to permit the competitive provision of all telecommunications services with the exception of voice telephony (which does not include value-added services and voice services within closed user groups) and certain other services that have been gradually liberalized through subsequent amendments to the Services Directive. The Full Competition Directive, adopted in March 1996, amended the Services Directive to set January 1, 1998 as the date by which all EU member states were required to remove all remaining restrictions on the provision of telecommunications services and telecommunications infrastructure, including voice telephony. Certain derogations from compliance with this timetable have been granted. The derogations granted by the EC are as follows: Luxembourg (July 1, 1998), Spain (November 30, 1998), Ireland (January 1, 2000), Portugal (January 1, 2000) and Greece (January 1, 2001). This basic framework has been advanced by a series of harmonization directives, which include the so-called Open Network Provision directive (ONP), which established the basic rules for access to the public network, the Leased Lines Directive, which required the incumbent carriers to lease lines to competitors and end-users and to establish cost accounting systems for those products by the end of 1993, the Licensing Directive of April 1997, which set out framework rules for the procedures associated with the granting of national authorizations for the provision of telecommunications services and for the establishment or operation of any infrastructure for the provision of telecommunications services, and the Interconnection Directive of June 1997, which sets out the regulatory framework for securing in the EU the interconnection of telecommunications networks. The EU has also enacted a directive on data protection that imposes restrictions on the processing of personal data which are more restrictive than current United States privacy standards. Under the directive, personal data about EU residents may not be transferred outside the EU unless certain specified conditions are met. In addition, persons whose personal data is collected, processed or transferred within the EU are guaranteed a number of rights, including the right to access and obtain 28 information about their data, the right to have inaccurate data rectified, and the right to object to the processing of their data for direct marketing purposes. The directive affects all companies that collect, process or transfer personal data in the EU or receive personal data from the EU. It may also affect companies that collect or transmit information over the Internet from individuals in the EU. For example, companies that do business in the EU may not be permitted to transfer personal data to countries that do not maintain adequate levels of data protection. The EU also has a separate directive on the privacy and processing of personal data in the telecommunications sector. Although we do not engage in the collection of data for purposes other than the routing of calls and billing, the data protection directives are quite broad and the EU privacy standards are stringent. The potential effect of these directives on the development of our business is uncertain. A 1998 amendment to the Interconnection Directive calls for the introduction of operator number portability by January 1, 2000 and extended the requirement of number portability to the entire fixed network. The amended Directive further requires the introduction of carrier preselection for at least all fixed network operators by January 1, 2000. Each EU member state in which we currently conduct business has a different regulatory regime, and we expect such differences to continue. Accordingly, we must obtain different approvals, where required, from country to country. As part of the EC commitment, all EU member states are also signatories to the WTO Agreement. In November 1999, the EC released a report setting forth principles for the development of a new framework for the regulation of EU communications infrastructure and associated services. Based on comments submitted by interested parties in February 2000, the EC expects to produce proposals to amend the existing regulatory framework in the first half of 2000. Among others, new regulatory measures will be adopted in the following areas: (i) licensing and authorizations; (ii) access and interconnection; (iii) management of radio spectrum; (iv) universal service; (v) number portability; (vi) consumer protection; and (vi) competition. The EC indicated that it did not support the creation of Internet-specific rules, instead the EC expressed its desire to treat Internet transmission services in the same way as other transmission services. A proposal for a directive to establish a coherent legal framework for the development of electronic commerce was put forth by the EC in November 1998. The directive would cover all information services, both business to business and business to consumer services, including services provided free of charge to the recipient (e.g. funded by advertising or sponsorship revenue and services allowing for on-line electronic transactions such as interactive teleshopping of goods and services and on-line shopping malls). The proposed Directive would establish specific harmonized rules only in those areas strictly necessary to ensure that businesses and citizens could supply and receive information society services through the EU, irrespective of frontiers. These areas include definition of where operators are established, electronic contracts, liability of intermediaries, dispute settlement and role of national authorities. In other areas the Directive would build on existing EU instruments which provide for harmonization or on mutual recognition of national laws. The Directive would apply only to service providers established within the EU and not those established outside. OUR MAJOR INTERNATIONAL MARKETS AUSTRIA. Austria joined the EU in January 1995 and, consequently, became subject to the telecommunications directives of the EC, including the agreement for total market liberalization by January 1998. In compliance with the EU directives, in particular in response to an official EU directive warning Austria of the consequences of delaying deregulation, a new telecommunications law (TKG 97) was passed by Parliament on August 1, 1997. The TKG 97 introduced full competition to the Austrian telecommunications market and established a new independent regulatory body, the Telekom Control Commission, to issue licenses and monitor compliance with telecom regulations. 29 Under the TKG 97, an individual license is required only for the provision of public voice telephony services, leased lines offered to the public by means of a fixed telecommunications network, public mobile telephony services and other mobile communications provided using a mobile communications network. All other services, public or non-public, may be provided upon notification to the Telekom Control Commission. Currently, Internet telephony is not covered by the legal provisions for "public voice telephony service." Any operator or service provider can offer Internet services. Startec Global Communications U.K. Ltd. (Startec UK), a wholly owned subsidiary of Startec Global Communications Corporation, was incorporated on April 27, 1998. Startec UK holds various telecommunications licenses and/or authorizations that allow it to offer services both in the United Kingdom and other European countries. In Austria, Startec UK holds a license for the provision of voice telephone by self-operated telecommunications network in Austria. This license allows for interconnection to Telekom Austria AG, the former monopoly PTT, and for the provision of retail and wholesale services in Austria. CANADA. The Canadian market has been significantly liberalized over the past year. As of October 1, 1998, international voice service, previously provided exclusively by Teleglobe, was opened to full competition. The domestic long distance market also has become more competitive as a result of the break up of the Stentor Alliance, comprised of nine provincial incumbent local exchange carriers, and the announcement by other companies of their intent to offer nationwide long distance service. Additionally, the Canadian government has relaxed long distance routing restrictions so that carriers may now route domestic and international traffic according to the most economical route, even by transiting or hubbing through the United States. These market and regulatory changes will provide increased opportunity for competitive entry in both domestic and international long distance services markets. Section 16 of the Telecommunications Act restricts Canadian facilities based carriers to a maximum total of 46.7% of direct and indirect foreign ownership of voting shares. Startec Global Communications Company Canada (Startec Canada), was incorporated on July 29, 1998. Startec Canada has obtained a Class A License, enabling it to provide commercial and wholesale telecommunication services in Canada. Startec Canada has also obtained extra-provincial registrations in Nova Scotia, Ontario, Manitoba, Alberta and British Columbia. Startec Canada currently offers retail prepaid services in British Columbia, Quebec and Ontario and wholesale carrier services nationwide. CHINA. China's regulatory regime remains one of the strictest in the world. Some analysts predict that foreign participation in the Chinese telecommunications industry will be relatively slow. These analysts believe that local, domestic long distance, and international gateway facilities services will remain under Chinese government control for several years. China has some government-affiliated ISPs and some small independent ISPs that are not linked to the Internet. Access to the Chinese market remains uncertain. EGYPT. Telecom Egypt has a monopoly on national long distance and international long distance telephony. There does not appear to be plans to introduce competition in these segments of the market in the near future. The Telecommunication Regulatory Authority (TRA) regulates the telecommunications industry in Egypt. Among other things, the role of TRA is to issue licenses, consent to changes to tariffs, and ensure adequate quality of services. Both Egypt Telecom and TRA operate under the Ministry of Transportation and Communication. It is possible that a portion of the Egyptian telecommunication industry may be privatized in the future. FRANCE. In July 1996, legislation was enacted providing for the immediate liberalization of all telecommunications activities in France, but maintaining a partial exception for the provision of voice telephony. Voice telephony was subsequently fully liberalized on January 1, 1998. The establishment and operation of public telecommunications networks and the provision of voice telephony are subject to individual licenses, which are granted by the minister in charge of telecommunications upon 30 recommendation of France's independent regulatory authority, the Autorite de Regulation des Telecommunications (ART). GERMANY. The German Telecommunications Act of July 25, 1996 liberalized all telecommunications activities, but postponed effective liberalization of voice telephony until January 1, 1998. The German Telecommunications Act has been complemented by several Ordinances. The most significant Ordinances concern license fees, rate regulation, interconnection, universal service, frequencies and customer protection. Under the German regulatory scheme, licenses can be granted within four license classes. A license is required for operation of transmission lines that extend beyond the limits of a property and that are used to provide telecommunications services for the general public. The licenses required for the operation of transmission lines are divided into three infrastructure license classes: mobile telecommunications (license class 1), satellite (license class 2), and telecommunications services for the general public (license class 3). In addition to the infrastructure licenses, a license is required for operation of voice telephony services over self-operated telecommunications networks (license class 4). A class 4 license does not include the right to operate transmission lines. Startec Global Communications (Germany) GmbH (Startec Germany), is a wholly owned subsidiary of Startec. In December 1998, Startec Germany purchased Global Communications GmbH, a German carrier with Siemens EWSD switch located in Dusseldorf. Global Communications GmbH holds a Class 4 (Nationwide) license, and an interconnection agreement with Deutsche Telekom which allows us to provide a full range of telecommunication services and to obtain interconnection with Deutsche Telekom. An interconnection agreement with Deutsche Telekom has been signed with final physical interconnect pending. Currently also, Startec Germany has installed a POP site in Frankfurt which is being upgraded to a Siemens EWSD switch. We offer wholesale and retail prepaid services in Germany. HONG KONG. The international telecommunications services market is open for competition. As of September 30, 1999, 33 companies have filed for licenses to provide international fixed telecommunications network services in Hong Kong. We expect to face stiff competition in this market. INDIA. In 1999, the Government of India announced a series of regulatory initiatives designed to change the telecommunications market in India. The primary initiatives include: (1) Indian commitment to creating a strong and independent regulator; (2) privatizing the Department of Telecommunications (by 2001); (3) changing its licensing regime for new licenses (from fixed fee to entry fee plus revenue share); (4) opening its domestic long distance market; (5) reviewing its international service monopoly; (6) allowing more carriers to provide fixed line services; and (7) monitoring and reviewing the merits of allowing Internet telephony (which is currently prohibited). IRELAND. Ireland has recently accelerated the liberalization of its telecommunications market, implementing full competition a year ahead of schedule. On December 1, 1998 Ireland granted 29 new telecommunications licenses of which 21 were general licenses for public voice telephony. The Office of the Director of Telecommunications Regulation (ODTR), created by the Telecommunications (Miscellaneous Provisions) Act of 1996 is currently working on a broad range of regulatory initiatives to bring Ireland up to par with other European countries with more advanced liberalization regimes. In Ireland, Startec U.K. holds a General Telecommunications License, which allows Startec to offer retail and wholesale telecommunication services in Ireland and to interconnect to Telecom Eireann. THE NETHERLANDS. The Dutch Telecommunications Act of 1998 (Dutch Telecom Act), which became effective December 15, 1998, provides the current regulatory framework for the provision of telecommunications services in the Netherlands. The new regime closely parallels the EU Licensing Directive requiring individual licenses only for the use of spectrum. All other services including the installation and provision of public telecommunications networks, leased lines and broadcasting 31 networks may be provided pursuant to registration. The newly enacted Dutch Telecom Act also facilitates the construction of telecommunications networks by giving registered carriers access to rights-of-way, subject to certain conditions. In the Netherlands, we hold a Special Network Access Registration, which allows for retail and wholesale services and interconnection with Royal KPN Netherlands, N.V. Startec has installed a POP in the Netherlands, and currently offers carrier wholesale and prepaid retail services to customers in the Netherlands. NEW ZEALAND. The New Zealand market is fully liberalized. In New Zealand, Startec UK holds a registration as an operator under the Telecommunications (International Services) Regulations 1994. We have not yet commenced services in New Zealand. SWITZERLAND. Switzerland is not a member of the EU. Nonetheless, a new Telecommunications Act was adopted by the Swiss Parliament in April 1997 and took effect on January 1, 1998, together with Ordinances containing more detailed regulations covering telecommunications services, frequency management, numbering, terminal equipment and license fees. The new Telecommunications Act liberalized the Swiss telecommunications market as of January 1, 1998. The newly enacted Swiss telecommunications regulatory framework facilitates market entry by: (1) applying a notification procedure for resellers; (2) applying a procedure for operators wishing to be granted a concession for the establishment and operation of transmission facilities; and (3) providing rights-of-way, subject to a procedure of authorization, over the public domain to facilities-based carriers. Pro-competitive regulation is also applicable in the area of numbering. Startec Global Communications (Switzerland) GmbH (Startec Switzerland), our wholly owned subsidiary, was incorporated on August 5, 1998. Startec Switzerland holds a Registration for the Supply of Telecommunications Services in Switzerland, which allows for interconnection with Swisscom S.A. as well as for the provision of wholesale and retail services. Startec Switzerland has installed a POP site in Geneva through which retail prepaid and wholesale carrier services are provided in Switzerland. SYRIA. The Syrian Telecommunications Establishment (STE) is both the regulator and telecommunications service provider in Syria. The STE has the exclusive rights on all wireline and wireless services provided in the country. The policy of the Syrian government continues to be against privatization of telecommunications services. Recently, the STE has entered into build, operate, and transfer agreements with several private sector companies for the provision of certain telecommunications services. In September 1999, the STE issued a request for proposal that would award a contract to establish a countrywide Internet backbone. The government will control the country's international connection to the global Internet. THE UNITED KINGDOM. The Telecommunications Act 1984 (the U.K. Act) provides a licensing and regulatory framework for telecommunications activities in the United Kingdom, which are fully competitive. The Secretary of State for Trade and Industry at the Department of Trade and Industry (the Secretary of Trade) is responsible for granting licenses under the U.K. Act and for overseeing telecommunications policy, while the Director General of Telecommunications (the "Director General") and his office are responsible, among other things, for enforcing the terms of such licenses. The Director General will recommend the grant of a license to operate a telecommunications network to any applicant that the Director General believes has a reasonable business plan, the necessary financial resources and where there are no other overriding considerations against the grant of a license. In December 1996, the British Government introduced the International Facilities License (IFL) which authorizes holders to provide international telecommunications services over their own international infrastructure and/or by making use of IRUs in undersea cables. Startec U.K. holds an IFL which enables us to own telecommunications facilities entering the U.K. and gives Startec UK the rights and obligations to interconnect with British Telecom Communications 32 at wholesale interconnect rates. Startec Global Communications Corporation also holds an International Simple Voice Resale (ISVR) license in the U.K. Startec UK has a POP in London and is in the process of upgrading to a Siemens EWSD switch. Currently, Startec UK offers wholesale carrier and retail prepaid services in the U.K. TURKEY. In February 2000, Turkey passed telecommunications laws designed to establish an independent regulatory body, liberalize all non-basic services and liberalize voice services and infrastructure by the end of 2003. EMPLOYEES As of December 31, 2000, we had 687 full-time employees and 24 part-time employees. Our employees are not represented by a collective bargaining agreement. We believe that we have good relations with our employees. In connection with our restructuring plans, we reduced our global workforce by approximately 400 positions during 2000 and the first quarter of 2001, which represents about 45% of our total workforce. ITEM 2. PROPERTIES The following table sets forth certain information as of December 31, 2000, relating to facilities used by the Company. All of the properties are leased. SQUARE SQUARE DATE PLACED LEASED OFFICE SPACE FOOTAGE CALL CENTERS FOOTAGE IN SERVICE ------------------- -------- ------------------------------- -------- ----------- Bethesda, MD................... 46,454 Guam, United States............ 1,760 1996 Bethesda, MD(1)................ 43,700 Seven Locks, MD................ 70,370 1999 Paris France................... 9,394 Paris, France.................. 1,265 1998 Los Angeles, CA(2)............. 7,260 Vancouver, British Columbia.... 9,600 2000 Guam, United States............ 8,000 Vancouver, British Columbia.... 6,500 2000 Hong Kong...................... 1,187 Toronto, Ontario............... 3,200 2000 London, UK..................... 1,126 Frankfurt, Germany............. 11,066 Miami, FL(2)................... 12,000 New York, NY(2)................ 2,110 New York, NY(2)................ 14,274 Saipan, Mariana Islands........ 1,000 ------------------------ (1) Headquarters of Startec Global Communications Corporation. (2) Facilities that house the switches. We also have a switch located in Dusseldorf, Germany. ITEM 3. LEGAL PROCEEDINGS From time to time we are involved in litigation incidental to the conduct of our business. We are not currently a party to any lawsuit or proceeding which, in the opinion of management, is likely to have a material adverse effect on our business, financial condition or results of operations. In a press release dated March 12, 2001, we jointly announced with Capsule Communications, Inc. that the parties had resolved all issues resulting from the termination of the Agreement and Plan of Reorganization dated as of November 2, 2000 and that all parties had released one another from any liability in connection therewith. To reflect the differences in incurred expenses in the course of the merger efforts, we agreed to make a series of payments to Capsule over the first half of 2001 totalling $400,000 in the aggregate. We made the first scheduled payment of $100,000 in March 2001. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 33 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Shares of our common stock, par value $0.01 per share, were initially offered to the public on October 9, 1997 at a price of $12.00 per share. Our common stock is currently listed on the Nasdaq National Market under the ticker symbol "STGC." On April 5, 2001, we received written notification from the Nasdaq Listing Qualifications Department, stating that our common stock no longer met certain requirements for continued listing on the Nasdaq National Market. As permitted under Nasdaq's rules, we appealed the delisting determination. Our request for an appeal will suspend the delisting process pending a decision by the Nasdaq Listing Qualifications Panel. We do not believe we will be eligible to list our securities on the Nasdaq Small Cap Market should the securities be delisted from the Nasdaq National Market. There can be no assurance that our common stock will continue to be listed on Nasdaq. We have not declared any cash dividends on the common stock. We intend to retain future earnings, if any, for use in our business and do not anticipate paying regular cash dividends on the common stock. The following table sets forth, on a pershare basis, the high and low sale prices for our common stock as reported by the Nasdaq National Market, for the periods indicated. Such prices reflect inter-dealer prices, without retail mark-up, mark-down or commission, and do not necessarily represent actual transactions. HIGH LOW -------- -------- 1999 1st Quarter.......................................... $10.188 $ 7.625 2nd Quarter.......................................... 12.625 5.875 3rd Quarter.......................................... 15.25 12.25 4th Quarter.......................................... 22.00 12.438 2000 1st Quarter.......................................... 34.125 19.625 2nd Quarter.......................................... 23.3125 8.25 3rd Quarter.......................................... 13.25 5.75 4th Quarter.......................................... 6.5 2.5 2001 1st Quarter.......................................... 6.0 0.4062 2nd Quarter (through 4/03/2001)...................... 0.8125 0.5625 As of April 12, 2001, there were approximately 179 stockholders of record of our common stock. In May 2000, we issued and sold 1,377,800 shares of our common stock for an aggregate offering price of $16.5 million in a private transaction to accredited investors exempt from registration under Section 4(2) of the Securities Act of 1933, as amended (the "Securities Act"). In June 2000, in connection with an unsecured credit facility extended to us by Allied Capital Corporation, we issued a stock purchase warrant to Allied pursuant to which, at any time and from time to time until June 30, 2005, Allied is entitled at its sole option to purchase an aggregate of 125,000 shares of our common stock at an exercise price of $11.21 per share subject to antidilution adjustments. Allied certified to us its status as an accredited investor; the warrant was issued without registration pursuant to Section 4(2) of the Securities Act. In November 2000, we issued and sold an aggregate of 1,855,000 shares of our common stock for an aggregate offering price of approximately $7.2 million in a private transaction to accredited investors exempt from registration under Section 4(2) of the Securities Act. In March 2001 we issued an additional 185,500 shares of common stock to the investors who had participated in the November 2000 private placement. These shares were issued in compensation for our failure to timely file a registration statement with respect to the resale of shares of common stock originally issued in connection with the 34 November 2000 private placement. The 185,500 shares were issued in a private transaction to accredited investors exempt from registration under Section 4(2) of the Securities Act of 1933, as amended. In the first quarter of 2000, we acquired several Voice over Internet Protocol ("VoIP") termination facilities from various vendors for approximately $2.2 million in cash and shares of our common stock valued at approximately $1.9 million. The shares of common stock were issued without registration pursuant to Section 4(2) of the Securities Act. In March 2000, we acquired Vancouver Telephone Company ("VTC"), for approximately $1.1 million in cash and 520,463 shares of common stock valued at approximately $12.3 million. The shares of common stock were issued without registration pursuant to Section 4(2) of the Securities Act. In March 2000, we acquired DLC Enterprises Inc. ("DLC"), a New York-based telecommunications company for approximately $0.5 million. DLC offers dial-1, debit card and ISP services. DLC provides us with a management and sales force, proprietary billing and customer provisioning software and small business revenue. The acquisition of DLC facilitates the introduction of commercial services for ethnic and mid-sized business customers. If certain financial criteria are met by April 30, 2001, we are subject to a contingent payment of approximately $5.6 million payable in cash of approximately $0.5 million and $5.1 million in the form of either cash or our common stock. The shares of common stock were issued without registration pursuant to Section 4(2) of the Securities Act. In March 2000, we acquired Global Villager Inc. for approximately $0.8 million in cash and 503,872 shares of our common stock valued at approximately $13.2 million. The shares of common stock were issued without registration pursuant to Section 4(2) of the Securities Act. In March 2000, we acquired a 19.9% ownership interest in Datalink Telecommunications Limited ("Datalink") in exchange for 200,000 of our common shares valued at $3.92 million. ITEM 6. SELECTED FINANCIAL DATA The following table presents selected historical financial data for Startec which has been derived from our audited financial statements for the five most recent years in the period ended December 31, 2000. The following information should be read in conjunction with our consolidated financial statements and notes 35 thereto presented elsewhere herein. See "Consolidated Financial Statements" and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included herein. FOR THE YEAR ENDED DECEMBER 31, ----------------------------------------------------- 2000 1999 1998 1997 1996 --------- -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER-SHARE DATA) STATEMENT OF OPERATIONS DATA: Net revenues......................................... $ 324,547 $276,471 $161,169 $85,857 $32,215 Cost of services..................................... 258,933 242,735 141,176 75,783 29,881 --------- -------- -------- ------- ------- Gross margin....................................... 65,614 33,736 19,993 10,074 2,334 General and administrative expenses.................. 83,577 41,783 20,520 6,288 3,996 Selling and marketing expenses....................... 16,227 15,409 7,876 1,238 514 Depreciation and amortization........................ 16,728 7,753 2,253 451 333 Loss on impairment(4)................................ 50,255 -- -- -- -- --------- -------- -------- ------- ------- (Loss) income from operations...................... (101,173) (31,209) (10,656) 2,097 (2,509) Interest income (expense), net....................... (24,895) (16,736) (7,404) (449) (321) Equity in losses from affiliates..................... (1,385) (290) -- -- -- --------- -------- -------- ------- ------- (Loss) income before taxes and extraordinary items............................................ (127,453) (48,235) (18,060) 1,648 (2,830) --------- -------- -------- ------- ------- Net (loss) income(1)............................... $(128,355) $(48,235) $(18,574) $ 1,619 $(2,830) ========= ======== ======== ======= ======= Basic (loss) earnings per common share(2): (Loss) income before extraordinary items........... $ (9.32) $ (5.13) $ (2.02) $ 0.26 $ (0.52) Net (loss) income(1)............................... (9.39) (5.13) (2.08) 0.26 (0.52) Weighted average common shares outstanding--basic............................... 13,676 9,411 8,945 6,136 5,403 Diluted (loss) earnings per common share(2): (Loss) earnings before extraordinary items......... $ (9.32) $ (5.13) $ (2.02) $ 0.25 $ (0.52) Net (loss) income(1)............................... (9.39) (5.13) (2.08) 0.25 (0.52) Weighted average common and equivalent shares outstanding--diluted............................. 13,676 9,411 8,945 6,423 5,403 OTHER FINANCIAL DATA: EBITDA(3)............................................ $ (34,190) $(23,456) $ (8,403) $ 2,548 $(2,176) Capital expenditures................................. 40,094 56,761 34,931 3,881 520 BALANCE SHEET DATA: Cash and cash equivalents............................ $ 14,875 $ 54,731 $ 81,456 $26,114 $ 148 Working capital (deficit)............................ (88,619) 28,450 81,414 25,735 (6,999) Total assets......................................... 254,010 280,631 225,982 51,530 7,327 Long term obligations, net of current portion........ 158,444 177,903 165,490 461 646 Total stockholders' (deficit) equity................. (68,674) 5,871 15,480 31,590 (6,089) -------------------------- (1) In 2000, we recognized a $902,000 extraordinary loss on the early extinguishment of debt. In 1998, we recognized a $514,000 extraordinary loss on the early extinguishment of debt. (2) Basic earnings (loss) per common share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding. Diluted earnings (loss) per common share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding plus other dilutive securities. (3) EBITDA consists of earnings (loss) before interest, income taxes, loss on impairment of assets, depreciation and amortization. EBITDA should not be considered as a substitute for income (loss) from operations, net income (loss), cash flow or other statement of income or cash flow data computed in accordance with GAAP or as a measure of a company's results of operations or liquidity. Although EBITDA is not a measure of performance or liquidity calculated in accordance with GAAP, we nevertheless believe that investors consider it a useful measure in assessing a company's ability to incur and service indebtedness. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The following discussion and analysis of the financial condition and results of operations should be read in conjunction with the financial statements, related notes, and other detailed information 36 included elsewhere in this Form 10-K. Certain information contained below and elsewhere in this Form 10-K, including information regarding our plans and strategy for our business, are forward-looking statements. See "Note Regarding Forward-Looking Statements." OVERVIEW We are a facilities-based provider of Internet protocol communication services, including voice, data and Internet access. Founded in 1989, we market our services to businesses, ethnic residential communities located in major metropolitan areas, international long distance carriers and Internet service provider's transacting with the world's emerging economies. Our mission is to become a leading provider of IP communication services, including voice, data and Internet services. Our target markets comprise of businesses and ethnic residential customers that transact with the Asia Pacific Rim, the Middle East and North Africa, Russia and Central Europe and Latin and South America. We provide our services through a flexible network of owned and leased facilities, operating and termination agreements, and resale arrangements. We have an extensive network of IP gateways, international gateways, domestic switches, and ownership in undersea fiber optic cables. Beginning in the fourth quarter of 2000, we began to modify our business plan. The revised plan calls for a restructuring that includes 1) consolidation of selected North American and European operations, 2) accelerated migration of circuit switched traffic to our IP network, 3) the discontinuation of unprofitable, low-margin business lines and 4) implementing certain cost reduction procedures. Implementation of this plan commenced in the first quarter of 2001. We believe these actions, combined with our recent financing transaction as described below, position us to become EBITDA positive during 2001. 37 During 2000, and in the first quarter of 2001, we eliminated approximately 400 positions globally. This number represents approximately 45% of our total workforce. The consolidation of operations represents approximately half of the positions we eliminated. A significant portion of this reduction related to our decision to shift our residential customer service operations from Bethesda, Maryland to Vancouver, Canada, where we already operate a call center facility. Last year, we established our Vancouver presence through the acquisition of Vancouver Telephone Company. Vancouver's diverse ethnic population provides a large pool of highly qualified potential employees to serve as in-language customer service representatives, and the shift will allow us to take advantage of lower personnel costs and overhead. We plan to use our Bethesda call center facilities to provide customer service support for our managed network services targeting business customers. We also intend to continue our call center operations in Guam, France and Germany. We are also consolidating our UK, France, Germany and Poland operations to focus on the development of our European business customer base. Germany will become the headquarters for our European customer service operations. Startec UK, France and Germany will discontinue non-profitable product lines and focus on growing our existing profitable product line and increasing penetration into the business customers segment. In 2000, we began eliminating the low margin circuit switched wholesale business to focus on the higher margin VoIP business. If we are successful in fully transitioning traffic to our IP network, the elimination of circuit switched business would result in a reduction of interconnect charges. This will also free up port capacity for business customers without significant increases in capital expenditures. Our strategy is to increase our focus on business customers, who generally have higher monthly revenue, generate higher margins and tend to "churn" less frequently than residential customers. As a result of our review of operations and projected profitability, we determined that approximately $50.3 million of long-lived assets and investments were impaired. This noncash loss relates to our decision to exit certain business lines including web portals and other investments in emerging companies that we concluded were impaired based upon their probable future undiscounted cash flows. Our decision to exit the carrier switched business and certain business lines in Europe and Asia together with the capital market downturn in the telecommunications sector resulted in additional provisions of bad debts of approximately $8 million in the fourth quarter. LIQUIDITY AND CAPITAL RESOURCES We had approximately $14.9 million of unrestricted cash and cash equivalents and an additional $9.9 million of restricted cash and pledged securities as of December 31, 2000. We obtained $15 million in new funding from Allied Capital Corporation, one of our existing creditors. The transaction is structured as a two year revolving accounts receivable purchase facility. Of the $15 million, we received net proceeds of $14.3 million, approximately $7.625 million of which was used to pay NTFC Capital Corporation overdue loan payments, prepayments and a commitment fee of $125,000. Based on our internal projections, we expect this new funding will allow us to remain funded through the third quarter of 2001. Currently, there is no availability under our credit facility with NTFC. If we are unable to restructure our senior notes, we will require additional financing to meet the November 2001 interest payment on our senior notes. We have classified the outstanding amounts under our credit and vendor facilities as current due to violation of certain covenants. The above factors raise substantial doubt about our ability to continue as a going concern. We prepared our financial statements on the basis that we will continue as a going concern. The financial statements do not include any adjustments relating to the recoverability and classification of asset carrying amounts or the amount and classification of liabilities that might be necessary should we be unable to continue as a going concern. 38 We have engaged Jefferies & Company, Inc. as our financial advisor to assist in evaluating alternatives to strengthen our capital structure, including the potential restructuring of our $160 million, 12% senior notes due 2008. We are in discussions with other investors to obtain additional financing. There can be no assurance such new financing will be available on terms that we find acceptable or that we will be able to restructure the senior notes. In the event that we are unable to obtain such additional financing and restructure the notes, we will be required to limit or curtail our operations, and we may be required to sell assets to the extent permitted by our debt facilities. Even with such reductions, we believe that if we cannot restructure the terms of the senior notes or raise additional financing, it is unlikely that we will make the November 2001 interest payment. Furthermore, if we cannot restructure the senior notes, there will be a material and adverse effect on our financial condition, to the extent that a restructuring, sale or liquidation will be required, in whole or in part. RESULTS OF OPERATIONS Our annual revenues have increased more than nine-fold over the last five years from approximately $32.2 million for the year ended December 31, 1996 to approximately $324.6 million for the year ended December 31, 2000. We reported a 2000 net loss of $128.4 million, or $9.39 per common share compared to a net loss of $48.2 million, or $5.13 per common share in 1999. The number of our residential customers increased from 10,675 customers as of December 31, 1996 to 670,634 customers as of December 31, 2000. To achieve economies of scale in our network operations and balance our residential international traffic, in late 1995, we began marketing our excess network capacity to international carriers seeking competitive rates and high quality capacity. Consistent with our intention of curtailing the circuit switched carrier business; we have reduced the number of our carrier customers to 87 at December 31, 2000 from 105 at December 31, 1999. For the year ended December 31, 2000, carrier customers accounted for approximately 62% of our net revenues versus 72% for the year ended December 31, 1999. A large majority of our revenues for the past three fiscal years have been derived from calls originated within the United States and terminated outside the United States. The percentages of net revenues attributable to traffic terminating on a region-by-region basis are set forth in the table below. FOR THE YEAR ENDED DECEMBER 31, ------------------------------------ 2000 1999 1998 -------- -------- -------- Asia Pacific Rim..................................... 28.5% 37.2% 44.8% Middle East/North Africa............................. 11.7 15.7 18.8 Sub-Saharan Africa................................... 7.1 9.6 8.1 Eastern Europe....................................... 8.5 9.1 9.6 Western Europe....................................... 10.8 4.5 1.7 North America........................................ 14.0 2.8 3.5 South America and Other.............................. 19.4 21.1 13.5 ----- ----- ----- Total................................................ 100.0% 100.0% 100.0% ===== ===== ===== Our cost of services consists of origination, transmission, termination and Internet connectivity expenses. Origination costs include the amounts paid to local exchange carriers ("LECs"), and in areas where we do not have our own network facilities, to other telecommunication network providers for originating calls ultimately carried to our IP gateways. Transmission expenses are fixed month-to-month payments associated with capacity on domestic and international leased lines, satellites and undersea fiber optic cables. Leasing this capacity subjects us to price changes that are beyond our control and to transmission costs that are higher than transmission costs on our own network. As we build our own transmission capacity, the risks associated with price fluctuations and the relative costs of transmission are expected to decrease; however, fixed costs will increase. 39 Termination expenses consist of variable per minute charges paid to foreign PTTs and alternative carriers to terminate our international long-distance traffic. Among our various foreign termination arrangements, we have entered into operating agreements with a number of foreign PTTs, under which international long distance traffic is both delivered and received. Under these agreements, the foreign carriers are contractually obligated to adhere to the policy of the FCC, whereby traffic from the foreign country to the United States is routed through U.S.-based international carriers like us. This traffic is in the same proportion as traffic carried into the foreign country from the United States ("return traffic"). Mutually exchanged traffic between foreign carriers and us is reconciled through a formal settlement arrangement at agreed upon rates. We record the amount due to the foreign PTT as an expense in the period the traffic is terminated. When we receive return traffic in a future period, we generally realize a higher gross margin on the return traffic as compared to the lower gross margin on the outbound traffic. Revenue recognized from return traffic was approximately $2.2 million or 0.7% in 2000, $824,000 or 0.3% in 1999, and $2.6 million or 1.6% of net revenues in 1998. There can be no assurance that traffic will be delivered back to the United States or that changes in future settlement rates, allocations among carriers or levels of traffic will not adversely affect net payments received and revenues recorded by us. In addition to operating agreements, we utilize alternative termination arrangements offered by third party vendors. We seek to maintain vendor diversity for countries where traffic volume is high. These vendor arrangements provide service on a variable cost basis subject to volume. These prices are subject to changes, generally upon seven days notice. Internet access expenses include amounts paid to tier one and tier two Internet backbone providers. Internet backbone providers provide broadband connectivity to Startec's Network Access Points (SNAP). This enables us to offer our business and residential customers with high quality internet access, web hosting and other advanced IP services. As the international telecommunications marketplace has been deregulated, per-minute prices have fallen and, as a consequence, related per-minute costs for these services have also fallen. As a result, we have not been adversely affected by price reductions, although there can be no assurance that this will continue. We expect selling, general and administrative costs to increase as we develop our infrastructure to manage higher business volume. Although consolidated operations were EBITDA negative in 2000, we believe that our revised business plan positions us to become EBITDA profitable during 2001. In addition, we believe the restructuring we have undertaken by us in 2001 will put us on a trajectory to be EBITDA positive on a global basis for the foreseeable future. 40 The following table sets forth certain financial data as a percentage of net revenues for the periods indicated. FOR THE YEAR ENDED DECEMBER 31, ------------------------------------ 2000 1999 1998 -------- -------- -------- Net revenues......................................... 100.0% 100.0% 100.0% Cost of services..................................... 79.8 87.8 87.6 ----- ----- ----- Gross margin....................................... 20.2 12.2 12.4 General and administrative expenses.................. 25.8 15.1 12.7 Selling and marketing expenses....................... 5.0 5.6 4.9 Depreciation and amortization........................ 5.2 2.8 1.4 Loss on impairment of assets......................... 15.5 -- -- ----- ----- ----- Loss from operations............................... (31.3) (11.3) (6.6) Interest expense..................................... (8.5) (7.9) (8.0) Interest income and other expense, net............... 0.4 1.6 3.4 ----- ----- ----- Loss before taxes and extraordinary item........... (39.4)% (17.5)% (11.2)% ===== ===== ===== 2000 COMPARED TO 1999 NET REVENUES. Net revenues for the year ended December 31, 2000 increased approximately $48.0 million, or 17.4% to approximately $324.5 million from $276.5 million for the year ended December 31, 1999. Revenues from North American operations were $289.7 million or 89.3% of the total revenues in 2000 compared to $263.6 million in 1999. Revenues from European operations were $27.5 million or 8.5% of the total revenues in 2000 compared to $7.2 million in 1999. Revenues from Asian operations were $7.3 million or 2.2% of the total revenues in 2000 compared to $5.7 million in 1999. Residential revenue increased in comparative periods by approximately $101.8 million or 128.1%, to approximately $181.3 million for 2000 from approximately $79.5 million in 1999. The increase in residential revenue is due to an increase in sales to ethnic residential customers. Residential customers grew to over 670,000 for December 2000 from approximately 303,000 for December 1999. This represents a 121.1% increase in residential customers over 1999. The number of carrier customers decreased to 87 in 2000 from 105 in 1999. Circuit switched carrier revenue for 2000 declined approximately $53.7 million, or 27.3%, to approximately $143.3 million from approximately $197.0 million for 1999. The decrease in carrier revenues is due to the execution of our strategy to consciously exit the low margin circuit switched carrier segment and focus on the higher margin VoIP traffic. We grew our VoIP wholesale business to $49.5 million in 2000. The VoIP revenues in 1999 were negligible. This enabled us to optimize the capacity of our global IP network. GROSS MARGIN. Gross margin increased approximately $31.9 million to approximately $65.6 million for the year ended December 31, 2000 from approximately $33.7 million for the year ended December 31, 1999. Gross margin was $59.1 million or 20.4% of net revenues for our North American operations in 2000. Gross margin was $4.0 million or 14.5% of net revenues for our European operations in 2000. Gross margin was $2.5 million or 34.2% of net revenues for our Asian operations in 2000. The majority of this increase can be attributed to the higher gross margins we experienced from operations in our IP segment. GENERAL AND ADMINISTRATIVE. General and administrative expenses for the year ended December 31, 2000 increased approximately $41.8 million or 100.0% to approximately $83.6 million from $41.8 million for the year ended December 31, 1999. The increased amount of payroll and related general and administrative expenses associated with acquisitions completed in 2000 represented approximately $8.3 million of the increase. Additionally, we recognized approximately $8.0 million in 41 reserves in the fourth quarter for the carrier circuit switched business that we are in the process of exiting, we provided a valuation reserve against a $3.0 million loan to BCH Holding Co., Inc., and $2.4 million was reserved for receivables related to European and Hong Kong product lines that we are exiting. The remainder of the increase from the prior year was due to the implementation of our expansion plans during the first 8 months of the year. As a percentage of net revenues, general and administrative expenses increased to 25.8% in 2000 from 15.1% in 1999 due to our increased reserves. As a percentage of revenues, general and administrative expenses vary considerably between our reporting segments. In the first quarter of 2001, we incurred substantial additional severance costs associated with implementing our revised business plan, but we expect the overall decrease in personnel will result in savings for all of fiscal 2001. SELLING AND MARKETING. Selling and marketing expenses for the year ended December 31, 2000 increased approximately $0.8 million or 5.2% to approximately $16.2 million from approximately $15.4 million for the year ended December 31, 1999. As a percentage of net revenues, selling and marketing expenses decreased to 5.0% from 5.6% in the respective periods. The increase is primarily due to our efforts to market to new customer groups in North America and developing new regions in Europe and Asia. DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense for the year ended December 31, 2000 increased to approximately $16.7 million from approximately $7.8 million for the year ended December 31, 1999, due to increases in capital expenditures pursuant to our strategy of expanding our network infrastructure and due to the increase in capital assets associated with acquisitions completed in fiscal years 2000 and 1999. LOSS ON IMPAIRMENT. Loss on impairment for the year ended December 31, 2000 was $50.3 million. The loss on impairment was comprised of the following items. SIGMANET AND GLOBAL VILLAGER. In the fourth quarter of 2000, in our efforts to reduce operating losses and conserve cash, we decided to abandon certain of our web portal services. As a result we discontinued our web portal operations to the Asian Indian community that was operating under the name of IAOL and our bilingual Chinese/English Web community, DragonSurf.com. We obtained IAOL and DragonSurf.com in December 1999 and March 2000, respectively, through the acquisitions of SigmaNet and Global Villager. As we could not continue to fund the operating cash needs of the web portals and we did not foresee a near term improvement in the cash flows of the respective portals, we decided to shut down their operations. As a result, we recognized an impairment charge of approximately $17.4 million for the unamortized intangibles and goodwill of IAOL and DragonSurf.com. SUNRISE. Pursuant to an agreement with Sunrise World Communications, Inc. ("Sunrise") dated September 29, 2000, we acquired a 40% equity interest in Sunrise and a 5 year carrier services agreement in exchange for certain VoIP termination facilities and the forgiveness of accounts receivable due to us from Sunrise. Sunrise provides Internet communications service between the United States and certain emerging countries. During the first nine months of 2000, we earned revenue of approximately $24.5 million from terminating traffic on behalf of Sunrise. The corresponding receivable together with certain other deposits and VoIP termination facilities, with a carrying value of $4.3 million were exchanged for Sunrise common stock and a favorable carrier services agreement. We valued the investment in Sunrise at approximately $29 million based on the carrying value of assets exchanged and as supported by a third party appraisal for the value of Sunrise's equity. The transaction was negotiated at a time when Internet communications entities were highly valued in the market place. Given the dramatic downturn in market valuations and liquidity concerns facing telecommunication entities, we expensed the investment in Sunrise during the fourth quarter. While we 42 continue to believe that the carrier services agreement provided by Sunrise is valuable to us, there can be no assurance that these services will continue to be available to us over the term of the agreement. ASIAN TELECOMMUNICATIONS BUSINESS. Given our historical operating losses, current liquidity concerns and a significant decline in the market value of our common stock, we reviewed our long-lived assets including identifiable intangible assets and goodwill for impairment. We performed our review based upon projected probable undiscounted cash flows for our respective operating regions. We concluded that the probable undiscounted cash flows for our Asian telecommunications business would be less than the carrying value of the respective long-lived assets. This reflects our reduction in force in our Hong Kong operations. We recognized an impairment charge of $3.3 million to reduce long-lived assets and goodwill with a carrying value of approximately $16 million to estimate fair value. There were no losses on impairment for the year ended December 31, 1999. INTEREST EXPENSE. Interest expense for the year ended December 31, 2000 increased to approximately $27.7 million from approximately $21.8 million for the year ended December 31, 1999, as a result of the interest charged on the proceeds from our bank and vendor financing facilities and interest on the senior notes. INTEREST INCOME. Interest income for 2000 decreased to $2.8 million from $5.1 million in 1999 as we redeemed the pledged securities to pay the interest for the senior notes. OTHER INCOME (EXPENSE). Other expense was $1.4 million for 2000 compared to $290,000 in 1999, primarily as a result of the operating losses incurred by companies in which we own an equity interest. EXTRAORDINARY ITEM. Extraordinary losses were $0.9 million in connection with the early extinguishments of our Loan and Security Agreement with Congress Financial Corporation ("CFC"). This amount consisted of a one-time payment to CFC and unamortized deferred financing costs. NET LOSS. The net loss was approximately $128.4 million or $9.39 per diluted share in 2000 as compared to a net loss of approximately $48.2 million or $5.13 per diluted share in 1999. 1999 COMPARED TO 1998 NET REVENUES. Net revenues for the year ended December 31, 1999 increased approximately $115.3 million, or 71.5% to approximately $276.5 million from $161.2 million for the year ended December 31, 1998. Revenues from North American operations were $263.6 million or 95% of the total revenues in 1999 compared to $160.8 million or 99% of the total revenues in 1998. Residential revenue increased in comparative periods by approximately $25.8 million or 48.1%, to approximately $79.5 million for 1999 from approximately $53.7 million in 1998. The increase in residential revenue is due to an increase in sales to ethnic residential customers. Residential billers grew to over 303,000 for December 1999 from approximately 122,000 for December 1998. This represents a 148% increase in residential customers over 1998. The number of carrier customers grew to 105 in 1999 from 53 in 1998. Carrier revenue for 1999 increased approximately $89.5 million, or 83%, to approximately $197 million from approximately $107.5 million for 1998. The increase in carrier revenues is due to the execution of our strategy to optimize our capacity on our facilities, which has resulted in sales to additional carrier customers and increased sales to existing carrier customers. GROSS MARGIN. Gross margin increased approximately $13.7 million to approximately $33.7 million for the year ended December 31, 1999 from approximately $20 million for the year ended December 31, 1998. Gross margin was $31.7 million or 12% for our North American operations in 1999. Gross margin is impacted by several key factors: first, positively through the continued implementation of our operating agreements for termination of our call traffic volume. Second, due to increase in our on-net traffic by utilizing our expanded capacity thereby reducing the origination and 43 transport cost. Lastly, the lease cost of the network for Europe to build customer and traffic volume has had negative implications. GENERAL AND ADMINISTRATIVE. General and administrative expenses for the year ended December 31, 1999 increased approximately $21.3 million or 104% to approximately $41.8 million from $20.5 million for the year ended December 31, 1998. The increase was primarily due to an increase in personnel to 774 at December 31, 1999 from 409 at December 31, 1998, and to a lesser extent, an increase in billing processing fees as a result of the increased residential customer base. The employee base of 774 at December 31, 1999 consists of approximately 30% of the employees based outside of the US and are primarily focused on business opportunities in Asia and Europe and approximately 10% of the employees focused on our Internet or eStart activities. As a percentage of net revenues, general and administrative expenses increased to 15.1% in 1999 from 12.7% in 1998 due to our continued worldwide development and expansion. SELLING AND MARKETING. Selling and marketing expenses for the year ended December 31, 1999 increased approximately $7.5 million or 96% to approximately $15.4 million from approximately $7.9 million for the year ended December 31, 1998. As a percentage of net revenues, selling and marketing expenses increased to 5.6% from 4.9% in the respective periods. The increase is primarily due to our efforts to market to new customer groups in North America and developing new regions in Europe and Asia. DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense for the year ended December 31, 1999 increased to approximately $7.8 million from approximately $2.3 million for the year ended December 31, 1998, primarily due to increases in capital expenditures pursuant to our strategy of expanding our network infrastructure. INTEREST EXPENSE. Interest expense for the year ended December 31, 1999 increased to approximately $21.8 million from approximately $12.8 million for the year ended December 31, 1998, as a result of the interest charged on the proceeds from our bank and vendor financing facilities and interest on the high yield debt. INTEREST INCOME. Interest income for 1999 decreased to $5.1 million from $5.4 million in 1998 as we redeemed the pledged securities to pay the interest for the high yield debt. OTHER INCOME (EXPENSE). Other expense was $290,000 for 1999 compared to zero in 1998, primarily as a result of the operating losses incurred by companies in which we own an equity interest. NET LOSS. The net loss was approximately $48.2 million or $5.13 per diluted share in 1999 as compared to a net loss of approximately $18.6 million or $2.08 per diluted share in 1998. CAPITAL ACQUISITIONS AND EXPENDITURES In the first quarter of 2000, we acquired several VoIP termination facilities from various vendors for approximately $2.2 million in cash and approximately $1.9 million in common stock. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of approximately $4.1 million to goodwill. In 2000, we paid $2.4 million in cash and $25.5 million in common stock for the acquisition of VTC, DLC Enterprises Inc. ("DLC"), and Global Villager, which were all accounted for as purchases. During 2000 and 1999, we used approximately $73.9 million and $74.1 million, respectively, in investing activities for continued expansion of our network including the deployment of multiple switches, POPs and IP gateways, the purchase of capacity on fiber optic cables, Indefeasible Rights of Usage ("IRUs"), acquisitions and the development of Internet-related services. We capitalized approximately $4.6 million and $2.1 million in 2000 and 1999, respectively, pursuant to the Statement of Position 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use". Capital expenditures for 2000 and 1999 were $40.1 million and $56.8 million, respectively. 44 During 1999, we paid $4.6 million in cash and $12.6 million in common stock for SigmaNet Network Corporation ("SigmaNet"), Worldwide Telecommunications Company Limited, Infinity Telecommunications Limited and Pacific Direct, Inc. (collectively "Worldwide Group") and Phone Systems and Network, Inc. of France ("PSN"). In March 2000, we acquired a 19.9% ownership interest in Datalink Telecommunications Limited ("Datalink") in exchange for 200,000 shares of our common stock valued at $3.92 million. Datalink is a telecommunications provider incorporated in Canada that owns and operates a fiber optic telecommunications network to emerging countries. During the second quarter of 2000, we received a $375,000 note payable from Datalink due within one year at 12% interest per year. At year-end, we provided a valuation reserve against the note and recorded the expense within general and administrative expenses within the accompanying statements of operations. In May 1999, we entered into an agreement to acquire up to a 49% fully diluted ownership interest in Dialnet Communications Limited ("Dialnet") for up to $1.6 million. Dialnet provides value added voice and data services in India. The agreement, which became effective July 1999 upon approval by the government of India, we made a total investment of $1 million, and also extended $600,000 in credit to Dialnet. Through July 2002, we can require that the face amount of Dialnet's outstanding debt be converted into common stock of Dialnet. As of December 31, 2000, we had an equity investment of $1.3 million in Dialnet and $600,000 outstanding under the loan. In February 1999, we acquired a 20% equity ownership interest in BCH Holding Company, Inc. ("BCH") with operations in Poland, for approximately $1.2 million. Concurrent with the acquisition, we received a $2.5 million note payable from BCH convertible at our option into common shares equivalent to an additional 28% fully diluted ownership interest of BCH. BCH is a reseller of international voice and a licensed Internet service provider in Poland. During the second and third quarter of 2000, we extended an additional $0.5 million to BCH. The investment in BCH and the note payable from BCH are included in intangibles and other long-term assets in the accompanying condensed consolidated balance sheet. As of December 31, 2000, we had provided a valuation reserve against the entire $3.0 million loan. Our business strategy contemplates aggregate capital expenditures (including capital expenditures, working capital and other general corporate purposes) of approximately $4.0 million to $5.0 million through December 31, 2001 to be spent on our VoIP infrastructure. Although we intend to implement the capital spending plan described above, it is possible that unanticipated business opportunities may arise which we may conclude are more favorable to our long-term prospects than those contemplated by the current capital spending plan. CAPITAL TRANSACTIONS In November 2000, we issued 1,885,000 shares of voting common stock for net proceeds of approximately $6.7 million through a private placement. We did not register these shares for resale within the prescribed period following the issuance of such shares. According to the terms of the private placement, we were required to issue 188,500 additional shares. In May 2000, we issued 1,377,800 shares of unregistered common stock for net proceeds of approximately $15.4 million in a private transaction. We subsequently registered the shares for resale. In June 2000, we entered into a five-year term loan with a principal balance of $50 million with NTFC Capital Corporation, a financing arm of GE Capital ("NTFC Facility"). This loan represents an increase of $15 million over the original $35 million facility entered into in December 1998 with NTFC. Advances under the original $35 million mature on January 31, 2004 and advances under the $15 million increase mature on May 31, 2005. The NTFC Facility may be used to finance the continued expansion of our Internet initiatives and transport business, additional development of Wireless 45 Applications Protocol, applications of our Internet portals, expansion of VoIP services, acquisitions and working capital for general corporate purposes. The outstanding borrowings on the NTFC Facility carry interest rates ranging from 8.91% to 10.65%, with a weighted average interest rate of 10.2%. Principal and interest payments are due monthly. Under the terms of the NTFC Facility, we are subject to certain financial and operational covenants, including but not limited to minimum cash levels of $20 million during 2001, minimum EBITDA, restrictions on our ability to pay dividends and level of indebtedness. As of December 31, 2000 and 1999, approximately $45.9 million and $21.0 million, respectively, was outstanding under the NTFC Facility. The NTFC Facility is secured by a pledge of all shares of Startec Global Operating Company ("Operating Company") that we own, and by a first priority security interest in all of the Operating Company's assets. As of March 31, 2001, we were not in compliance with the NTFC covenants and we have classified amounts outstanding as current in the accompanying Consolidated Balance Sheets. In April 2001 in connection with the Allied financing transactions described below, we amended the NTFC Facility. Pursuant to the amendment, NTFC agreed to waive certain defaults and revise certain financial covenants. In connection with this amendment, we used $7.625 million of the proceeds from the revolving accounts-receivable purchase facility to pay NTFC overdue loan payments, prepayments and a commitment fee of $125,000. We also agreed to issue a stock purchase warrant to NTFC to purchase 25,000 shares of our common stock upon any restructuring of our Senior Notes. In May 2000, we entered into vendor financing facility for up to $12.0 million from Coast Business Credit Corporation ("Coast Facility") due in Novemer 2002. The Coast Facility may be used to satisfy various operating liabilities. The interest rate on the Coast facility is the Prime Rate plus 3.5%, with a floor of 9%. As of December 31, 2000, approximately $5.8 million was outstanding under the Coast Facility. In June 2000, we entered into a $20 million unsecured facility from Allied Capital Corporation ("Allied Facility") with a balloon payment due at maturity in 2005. The Allied Facility may be used for general corporate purposes, including, without limitation, the purchase of telecommunications assets. The Allied Facility bears interest at the fixed rate of 15% per annum and is payable semi-annually, in arrears, at the fixed rate of 10% per annum. In connection with entering into the Allied Facility, we issued a stock purchase warrant to Allied pursuant to which, at any time and from time to time until June 30, 2005, Allied is entitled at its sole option to purchase an aggregate of 125,000 shares of common stock at an exercise price of $11.21 per share, subject to certain antidilution adjustments. Under the terms of the Allied Facility, we are subject to certain financial and operational covenants, including but not limited to restrictions on our ability to pay dividends and level of indebtedness. As of December 31, 2000, $20.4 million was outstanding under the facility. After July 1, 2002, we can prepay all or part of this loan without penalty. As amended, amounts outstanding are also subject to acceleration upon a material adverse change in the business. In April 2001 two of the wholly owned subsidiaries of Startec Global Communications Corporation, Startec Global Operating Company and Startec Global Licensing Company, together borrowed an aggregate of $20 million from Allied, which funds were distributed to the parent company as a dividend. The proceeds were used to repay outstanding indebtedness under the Allied Facility. As a result, the parent company no longer has any indebtedness to Allied, but Operating and Licensing are jointly indebted to Allied for $20 million, $10 million of which is secured by their accounts receivable and $10 million of which is unsecured. This indebtedness bears interest at a fixed rate of 15% per annum, payable semi-annually in arrears, at the fixed rate of 10% per annum. A balloon payment is due at maturity in 2005, but the indebtedness may be prepaid at any time without penalty. In addition, we are subject to certain financial and operational covenants, including limitations on our ability to incur additional indebtedness. 46 In addition, Operating and Licensing entered into a two-year revolving accounts-receivable purchase facility with Allied, resulting in net proceeds of approximately $14.3 million, approximately $7.625 million of which was used to pay NTFC overdue loan payments, prepayments and a commitment fee of $125,000. The proceeds of this purchase facility may be used for general corporate purposes. Under the purchase facility, Allied purchased an interest in the accounts receivable of Operating and Licensing. The annual discount rate payable with respect to the purchase price is 16%. During the two-year term of the facility, Allied is obligated to use proceeds from collection of the accounts receivable to purchase additional interests in other accounts receivable up to a maximum aggregate amount of $15 million, assuming that we remain in compliance with the financial and other covenants pursuant to this facility. In June 2000, we repaid and terminated a three-year Loan and Security Agreement with Congress Financial Corporation ("CFC Facility") two years ahead of the original term. Extraordinary losses of approximately $902,000 incurred with this extinguishment consisted of a one-time payment to Congress Financial Corporation and unamortized deferred financing costs. In December 1999, we issued 1,875,000 shares of voting common stock for net proceeds of $29.0 million through a private placement. The shares were subsequently registered in January 2000. In July 1999, we entered into a three-year vendor financing facility for up to $5 million with IBM Credit Corporation ("IBM Facility"). The IBM Facility may be used to finance the purchase of IBM hardware and software from IBM under a capital lease structure. Borrowings under the IBM Facility bear interest at a fixed rate equal to the average yield to maturity of the five-year Treasury Note plus a rate adjustment, which varies by the type of equipment, purchased. The outstanding borrowings on the IBM Facility carry interest rates ranging from 6.9% to 15.4% with a weighted average interest rate of 11.8%. As of December 31, 2000 and 1999, approximately $1.7 and $1.5 million, respectively, was outstanding under the IBM Facility. In May 1999, we entered into a vendor financing facility for up to $20 million with Ascend Credit Corporation ("Ascend Facility"). The Ascend Facility may be used to finance equipment purchased from Ascend under a capital lease structure. As of December 31, 2000 and 1999, approximately $1.8 million and $2.3 million, respectively, bearing interest at 8.5% was outstanding under the facility. CASH FLOWS Our liquidity requirements arise from cash used in operating activities, purchases of network equipment and payments on outstanding indebtedness. Our cash and cash equivalents decreased to approximately $14.9 million at December 31, 2000 from approximately $54.7 million at December 31, 1999. Net cash used by operating activities was approximately $64.5 million for 2000 and $30.5 million for 1999. The decrease in cash from operations was primarily the result of the net loss and an increase in accounts receivable, which was partially offset by an increase in accounts payable and accrued expenses. Net cash used in investing activities was approximately $44.8 million, $74.1 million and $37.6 million for 2000, 1999 and 1998, respectively. Net cash used in investing activities for 2000 was primarily related to acquisitions and capital expenditures made in connection with its telecommunication network expansion. Net cash provided by financing activities was approximately $72.6 million, $77.9 million and $118.4 million for 2000, 1999 and 1998, respectively. Cash provided by financing activities for 2000 primarily resulted from the proceeds from vendor and bank financing agreements and proceeds from the issuance of our common stock through private placements. EFFECTS OF INFLATION Inflation is not a material factor affecting our business and has not had a significant effect on our operations to date. 47 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We are exposed to market risk, including changes in interest rates, and to foreign currency exchange rate risks. We do not hold any financial instruments for trading purposes. We believe that our primary market risk exposure relates the effects that changes in interest rates have on our investments and those portions of our outstanding indebtedness that do not have fixed rates of interest. In this regard, changes in interest rates affect the interest earned on our investments in cash equivalents, which consist primarily of demand deposits and money market accounts, and U.S. Government obligations which have been purchased and pledged to make interest payments on the Senior Notes. In addition, changes in interest rates impact the fair value of our long-term debt obligations (including the Senior Notes). As of December 31, 2000, the fair value of the Senior Notes was approximately $9.6 million, and the fair value of the securities pledged to make certain interest payments on the Senior Notes was approximately $9.8 million and $29.2 million, respectively. Changes in interest rates also affect our borrowings under our vendor financing facilities with NTFC, IBM and Coast. Borrowings under the NTFC Facility bear interest at a fixed rate equal to the average yield to maturity of the five-year Treasury Note plus an agreed-upon rate adjustment. Borrowings under the IBM Facility bears a weighted average interest rate of 11.8% and NTFC bears interest rates ranging from 8.91% to 10.65%. Borrowings under the Coast Facility bear interest at a rate of prime plus 3.5%, with a floor of 9%. For 2000 and 1999, we experienced a translation adjustment of approximately $1.4 million and $148,000, respectively, relating to net assets held in foreign subsidiaries. We have not entered into foreign currency exchange forward contracts or other derivative arrangements to manage risks associated with foreign exchange rate fluctuations. Foreign exchange rate fluctuations exposure may increase in the future as the size and scope of our foreign operations increases. Additional information relating to the fair value of certain of our financial assets and liabilities is included in Note 13 in the Notes to Consolidated Financial Statements. We believe that our primary technology risk is the unauthorized entry into our network systems and disruption of operations ("hacking"). We did not experience any unauthorized entries or disruptions in 2000. We have taken steps to prevent any hacking into our network; however, we cannot provide any assurance that we will not be affected by potential attempts at disruption in the future. 48 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA INDEX TO FINANCIAL STATEMENTS PAGE -------- Report of Independent Public Accountants.................... 48 Consolidated Statements of Operations for the years ended December 31, 2000, 1999 and 1998...... 49 Consolidated Balance Sheets as of December 31, 2000 and 1999.......................... 50 Consolidated Statements of Changes in Stockholders' Equity (Deficit) for the years ended December 31, 2000, 1999 and 1998...... 51 Consolidated Statements of Cash Flows for the years ended December 31, 2000, 1999 and 1998...... 52 Notes to Consolidated Financial Statements.................. 53-81 49 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To Startec Global Communications Corporation: We have audited the accompanying consolidated balance sheets of Startec Global Communications Corporation and subsidiaries (the "Company," a Delaware corporation), as of December 31, 2000 and 1999, and the related consolidated statements of operations, changes in stockholders' equity (deficit) and cash flows for each of the three years in the period ended December 31, 2000. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Startec Global Communications Corporation and subsidiaries as of December 31, 2000 and 1999, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2000, in conformity with accounting principles generally accepted in the United States. The accompanying financial statements have been prepared assuming that the Company will continue as a going concern. As discussed in Note 1 to the financial statements, the Company has suffered recurring losses from operations and has a net capital deficiency and a working capital deficit. These facts raise substantial doubt about the Company's ability to continue as a going concern. Management's plan in regard to these matters is also described in Note 1. The financial statements do not include any adjustments relating to the recoverability and classification of asset carrying amounts or the amount and classification of liabilities that might result should the Company be unable to continue as a going concern. Our audits were made for the purpose of forming an opinion on the basic financial statements taken as a whole. The information included in Schedule II, Valuation and Qualifying Accounts, is the responsibility of the Company's management and is presented for purposes of complying with the Securities and Exchange Commission's rules and is not part of the basic financial statements. This schedule has been subjected to the auditing procedures applied in the audit of the basic financial statements and, in our opinion, fairly states in all material respects the financial data required to be set forth therein in relation to the basic financial statements taken as a whole. ARTHUR ANDERSEN LLP Vienna, Virginia April 13, 2001 50 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) FOR THE YEAR ENDED DECEMBER 31, ------------------------------------- 2000 1999 1998 --------- -------- -------- Net revenues................................................ $ 324,547 $276,471 $161,169 Cost of services............................................ 258,933 242,735 141,176 --------- -------- -------- Gross margin.............................................. 65,614 33,736 19,993 General and administrative expenses......................... 83,577 41,783 20,520 Selling and marketing expenses.............................. 16,227 15,409 7,876 Depreciation and amortization............................... 16,728 7,753 2,253 Loss on impairment.......................................... 50,255 -- -- --------- -------- -------- Loss from operations........................................ (101,173) (31,209) (10,656) Interest expense............................................ (27,707) (21,813) (12,830) Interest income............................................. 2,812 5,077 5,426 Equity in losses from affiliates............................ (1,385) (290) -- --------- -------- -------- Loss before income taxes and extraordinary item........... (127,453) (48,235) (18,060) Income tax provision........................................ -- -- -- --------- -------- -------- Loss before extraordinary item............................ (127,453) (48,235) (18,060) Extraordinary item--loss on early extinguishment of debt.... (902) -- (514) --------- -------- -------- Net loss.................................................... $(128,355) $(48,235) $(18,574) ========= ======== ======== Basic and diluted loss per common share: Loss before extraordinary item.............................. $ (9.32) $ (5.13) $ (2.02) Extraordinary item--loss on early extinguishment of debt.... (0.07) -- (0.06) --------- -------- -------- Loss per common share....................................... $ (9.39) $ (5.13) $ (2.08) ========= ======== ======== The accompanying notes are an integral part of these consolidated statements. 51 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AMOUNTS) DECEMBER 31, ----------------------- 2000 1999 --------- -------- ASSETS CURRENT ASSETS: Cash and cash equivalents................................... $ 14,875 $ 54,731 Accounts receivable, net of allowance for doubtful accounts of $16,809 and $3,964, respectively....................... 51,411 65,182 Accounts receivable, related party.......................... 265 518 Other current assets........................................ 9,070 4,876 --------- -------- Total current assets...................................... 75,621 125,307 Property and equipment, net of accumulated depreciation and amortization of $24,366 and $10,422, respectively......... 123,843 94,221 Restricted cash and pledged securities...................... 9,859 28,108 Investments in affiliates................................... 5,164 4,729 Intangible assets, net of accumulated amortization of $1,949 and $952, respectively.................................... 32,235 21,982 Other long-term assets...................................... 7,288 6,284 --------- -------- $ 254,010 $280,631 ========= ======== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) CURRENT LIABILITIES: Accounts payable............................................ $ 70,777 $ 68,095 Accrued expenses............................................ 17,098 9,186 Credit facility............................................. 25,187 14,191 Vendor financing............................................ 50,844 5,253 Capital lease and other obligations......................... 334 132 --------- -------- Total current liabilities................................. 164,240 96,857 Senior notes................................................ 158,444 158,233 Vendor financing, net of current portion.................... -- 19,504 Capital lease and other obligations, net of current portion................................................... -- 130 Minority interest........................................... -- 36 --------- -------- Total liabilities......................................... 322,684 274,760 Commitments and contingencies (Note 7) STOCKHOLDERS' EQUITY (DEFICIT): Common stock, $0.01 par value; 40,000,000 shares authorized, 16,365,656 and 11,354,005 shares issued and outstanding, respectively.............................................. 164 114 Additional paid-in capital.................................. 133,526 78,447 Unearned compensation....................................... (131) (255) Accumulated deficit......................................... (200,642) (72,287) Accumulated other comprehensive loss........................ (1,591) (148) --------- -------- Total stockholders' equity (deficit)...................... (68,674) 5,871 --------- -------- $ 254,010 $280,631 ========= ======== The accompanying notes are an integral part of these consolidated statements. 52 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT) (IN THOUSANDS) VOTING ACCUMULATED COMMON STOCK ADDITIONAL OTHER ------------------- PAID-IN UNEARNED ACCUMULATED COMPREHENSIVE SHARES AMOUNT CAPITAL COMPENSATION DEFICIT LOSS TOTAL -------- -------- ---------- ------------- ------------ -------------- --------- Balance at December 31, 1997....... 8,812 $ 88 $ 37,221 $(241) $ (5,478) $ -- $ 31,590 Amortization of unearned compensation................... -- -- -- 51 -- -- 51 Exercise of employee stock options........................ 129 2 260 -- -- -- 262 Shares issued in repayment of note payable to individual..... 24 -- 44 -- -- -- 44 Warrants issued in connection with Senior Notes Offering..... -- -- 2,107 -- -- -- 2,107 Net loss......................... -- -- -- -- (18,574) -- (18,574) Comprehensive loss, December 31, 1998........................... -- -- -- -- -- -- -- ------ ---- -------- ----- --------- ------- --------- Balance at December 31, 1998....... 8,965 90 39,632 (190) (24,052) -- 15,480 Net proceeds from private placement...................... 1,875 19 29,024 -- -- -- 29,043 Exercise of employee stock options........................ 49 -- 422 -- -- -- 422 Unearned compensation pursuant to issuance of stock options...... -- -- 283 (283) -- -- -- Amortization of unearned compensation................... -- -- -- 218 -- -- 218 Shares issued in connection with acquisitions (Note 14)......... -- -- 4,555 -- -- -- 4,555 Issuance of common stock in connection with acquisitions... 465 5 4,531 -- -- -- 4,536 Net loss......................... -- -- -- -- (48,235) -- (48,235) Foreign currency translation adjustment..................... -- -- -- -- -- (148) (148) Comprehensive loss, December 31, 1999........................... -- -- -- -- -- -- -- ------ ---- -------- ----- --------- ------- --------- Balance at December 31, 1999....... 11,354 114 78,447 (255) (72,287) (148) 5,871 Net proceeds from private placement...................... 3,232 32 22,111 -- -- -- 22,143 Exercise of employee stock options........................ 57 1 492 -- -- -- 493 Amortization of unearned compensation................... -- -- -- 124 -- -- 124 Issuance of shares related to warrant exercise............... 20 -- 1,414 -- -- -- 1,414 Issuance of common stock in connection with acquisitions (Note 14)...................... 1,703 17 31,062 -- -- -- 31,079 Net loss......................... -- -- -- -- (128,355) -- (128,355) Foreign currency translation adjustment..................... -- -- -- -- -- (1,443) (1,443) Comprehensive loss, Decmeber 31, 2000........................... -- -- -- -- -- -- -- ------ ---- -------- ----- --------- ------- --------- Balance at December 31, 2000....... 16,366 $164 $133,526 $(131) $(200,642) $(1,591) $ (68,674) ====== ==== ======== ===== ========= ======= ========= COMPREHENSIVE LOSS -------------- Balance at December 31, 1997....... Amortization of unearned compensation................... Exercise of employee stock options........................ Shares issued in repayment of note payable to individual..... Warrants issued in connection with Senior Notes Offering..... Net loss......................... $ (18,574) --------- Comprehensive loss, December 31, 1998........................... $ (18,574) ========= Balance at December 31, 1998....... Net proceeds from private placement...................... Exercise of employee stock options........................ Unearned compensation pursuant to issuance of stock options...... Amortization of unearned compensation................... Shares issued in connection with acquisitions (Note 14)......... Issuance of common stock in connection with acquisitions... Net loss......................... $ (48,235) Foreign currency translation adjustment..................... (148) --------- Comprehensive loss, December 31, 1999........................... $ (48,383) ========= Balance at December 31, 1999....... Net proceeds from private placement...................... Exercise of employee stock options........................ Amortization of unearned compensation................... Issuance of shares related to warrant exercise............... Issuance of common stock in connection with acquisitions (Note 14)...................... Net loss......................... $(128,355) Foreign currency translation adjustment..................... (1,443) --------- Comprehensive loss, Decmeber 31, 2000........................... $(129,798) ========= Balance at December 31, 2000....... The accompanying notes are an integral part of these consolidated statements. 53 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) FOR THE YEAR ENDED DECEMBER 31, ------------------------------- 2000 1999 1998 --------- -------- -------- OPERATING ACTIVITIES: Net loss.................................................... $(128,355) $(48,235) $(18,574) Extraordinary item-loss on early extinguishment of debt..... 902 -- 514 Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization............................. 16,728 7,753 2,253 Loss on impairment........................................ 50,255 -- -- Compensation pursuant to stock options.................... 124 218 51 Amortization of deferred debt financing costs and debt discounts............................................... 1,072 795 947 Changes in operating assets and liabilities, net of effect of acquisitions: Accounts receivable, net.................................. (5,530) (23,193) (22,315) Accounts receivable, related party........................ 253 166 (307) Accounts payable.......................................... (881) 34,237 13,248 Accrued expenses.......................................... 6,524 2,158 745 Other..................................................... (5,565) (4,417) (2,039) --------- -------- -------- Net cash used in operating activities................. (64,473) (30,518) (25,477) --------- -------- -------- INVESTING ACTIVITIES: Acquisitions................................................ (4,648) (17,298) (2,648) Purchases of property and equipment......................... (40,094) (56,761) (34,931) Sale of property and equipment.............................. 424 -- -- Investments in affiliates................................... (500) -- -- --------- -------- -------- Net cash used in investing activities................. (44,818) (74,059) (37,579) --------- -------- -------- FINANCING ACTIVITIES: Proceeds from Senior Notes and Warrants Offering............ -- -- 160,000 Proceeds from sale of pledged securities.................... 17,854 19,200 8,261 Proceeds from vendor financing.............................. 40,542 18,579 8,885 Proceeds from private placements............................ 22,143 29,043 -- Proceeds from credit facility............................... 105,257 93,377 -- Net proceeds from issuance of common stock.................. 757 422 262 Investments in pledged securities........................... -- -- (52,417) Payments of debt financing costs............................ (1,353) (400) (6,222) Repayments of credit facility............................... (108,270) (79,186) -- Repayments of vendor financing.............................. (6,899) (2,707) -- Repayments under capital lease obligations.................. (596) (476) (371) --------- -------- -------- Net cash provided by financing activities............. 69,435 77,852 118,398 --------- -------- -------- (Decrease) increase in cash and cash equivalents............ (39,856) (26,725) 55,342 Cash and cash equivalents, beginning of year................ 54,731 81,456 26,114 --------- -------- -------- Cash and cash equivalents, end of year...................... $ 14,875 $ 54,731 $ 81,456 ========= ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Interest paid............................................... $ 26,263 $ 20,981 $ 9,408 Income tax paid............................................. -- -- 10 SUPPLEMENTAL DISCLOSURE OF NONCASH ACTIVITIES: Equipment acquired under capital lease...................... $ -- $ -- $ 84 Note payable to individual converted to common stock........ -- -- 44 The accompanying notes are an integral part of these consolidated statements. 54 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: ORGANIZATION Startec Global Communications Corporation (the "Company"), is a facilities-based provider of Internet Protocol ("IP") communication services, including voice, data and Internet access. Founded in 1989, the Company markets its services to businesses, ethnic residential communities located in major metropolitan areas, international long distance carriers and Internet service providers transacting with the world's emerging economies. The Company's mission is to become a leading provider of IP communication services, including voice, data and Internet services. The Company's target markets comprise of businesses and ethnic residential customers that transact with the Asia Pacific Rim, the Middle East and North Africa, Russia and Central Europe and Latin and South America. The Company provides services through a flexible network of owned and leased facilities, operating and termination agreements, and resale arrangements. The Company has an extensive network of IP gateways, international gateways, domestic switches, and ownership in undersea fiber optic cables. GOING CONCERN AND OTHER RISK FACTORS The Company has devoted substantial resources to the buildout of its network, deployment of its Internet initiatives, and the expansion of its marketing programs and strategic acquisitions. As a result, the Company experienced operating losses and negative cash flows from operations in each of the last three years. These losses and negative cash flows are expected to continue in the future. During the first quarter of 2001, the Company has substantially reduced its work force and consolidated its administrative functions previously located in Bethesda, Maryland to the Company's operations center in Potomac, Maryland. Additionally, the Company has curtailed its operations in Europe and Hong Kong. Although these reductions in force will result in severance and other termination costs in the first quarter of 2001, management believes these actions will result in significant cost savings in 2001. Additionally, management plans to substantially curtail capital expenditures in 2001. However, there can be no assurance that the Company's operations will become profitable or will produce positive cash flows. As of December 31, 2000, the Company's current liabilities were in excess of current assets by approximately $88.6 million due in part to the current classification of approximately $76 million of debt outstanding under its credit and vendor financing agreements (see Note 6). In April 2001, the Company entered into a twenty-four month accounts receivable purchase transaction with Allied Capital Corporation ("Allied"), resulting in net proceeds of approximately $7.375 million after paying certain loan payments, prepayments and a commitment fee to NTFC Capital Corporation ("NTFC"). If the Company cannot raise additional financing or restructure its senior notes, it is unlikely that the Company will be able to make its November 2001 interest payment on the Company's senior notes. The Company is in discussions with its lenders to obtain additional debt financing and with holders of its senior notes to restructure the indebtedness outstanding under the senior notes. There can be no assurance that such new financing will be available on terms management finds acceptable or at all, or that management will be able to restructure the senior notes. In the event that the Company is unable to obtain such additional financing or restructure the senior notes, it will be required to further limit or curtail its operations, and the Company may resort to selling assets to the extent permitted by its debt facilities. Even with such reductions, management believes that if the Company cannot restructure the terms of the senior notes or raise additional financing, it is unlikely that the Company will make the November 2001 interest payment. Furthermore, if the Company cannot restructure the senior notes, there will be a material and adverse effect on the financial condition of the Company, to the extent that a restructuring, sale or liquidation of the 55 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) Company will be required in whole or in part. The above factors raise substantial doubt about the Company's ability to continue as a going concern. The accompanying financial statements have been prepared on the basis that the Company will continue as a going concern. The financial statements do not include any adjustments relating to the recoverability and classification of asset carrying amounts or the amount and classification of liabilities that might be necessary should the Company be unable to continue as a going concern. On April 5, 2001, the Company received written notification from the Nasdaq Listing Qualifications Department, stating that the Company's common stock no longer met the requirements for continued listing. (See Note 18.) As part of management's plan to improve operating performance, the Company is accelerating its migration away from circuit switched traffic which accounted for approximately $143 million of the Company's 2000 net revenues. The Company's plan is to generate more traffic for its own IP network with a goal of generating higher margins. While there can be no assurance that higher gross margins can be achieved, the Company may experience a decrease in net revenues. The Company is subject to various risks in connection with the operation of its business. These risks include, but are not limited to, dependence on operating agreements with foreign partners, significant foreign and U.S.-based customers and suppliers, availability of transmission facilities, U.S. and foreign regulations, international economic and political instability, dependence on effective billing and information systems, customer attrition, and rapid technological change. Many of the Company's competitors are significantly larger and have substantially greater financial, technical, and marketing resources than the Company; employ larger networks and control transmission lines; offer a broader portfolio of services; have stronger name recognition and loyalty; and have long-standing relationships with the Company's target customers. In addition, many of the Company's competitors enjoy economies of scale that can result in a lower cost structure for transmission and related costs, which could cause significant pricing pressures within the telecommunications industry. If the Company's competitors were to devote significant additional resources to the provision of international long-distance services to the Company's target customer base, the Company's business, financial condition, and results of operations could be materially adversely affected. In the United States, the Federal Communications Commission ("FCC") and relevant state Public Service Commissions have the authority to regulate interstate and intrastate telephone service rates, respectively, ownership of transmission facilities, and the terms and conditions under which the Company's services are provided. Legislation that substantially revised the U.S. Communications Act of 1934 was signed into law on February 8, 1996. This legislation has specific guidelines under which the Regional Bell Operating Companies ("RBOCs") can provide long-distance services, which will permit the RBOCs to compete with the Company in providing domestic and international long-distance services. Further, the legislation, among other things, opens local service markets to competition from any entity (including long-distance carriers, cable television companies and utilities). Because the legislation opens the Company's markets to additional competition, particularly from the RBOCs, the Company's ability to compete may be adversely affected. Moreover, certain Federal and other governmental regulations may be amended or modified, and any such amendment or modification could have material adverse effects on the Company's business, results of operations, and financial condition. 56 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) PRINCIPLES OF CONSOLIDATION The consolidated financial statements of the Company include the accounts of the Company and its majority-owned subsidiaries. All material intercompany transactions and balances have been eliminated. USE OF ESTIMATES IN PREPARATION OF FINANCIAL STATEMENTS The preparation of financial statements in conformity with accounting principles generally accepted in the United States 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. RECLASSIFICATION Certain prior year amounts have been reclassified to conform with the current year presentation. REVENUE RECOGNITION Revenues for telecommunication services provided to customers are recognized as services are rendered, net of an allowance for revenue that the Company estimates will ultimately not be realized. Revenues for return traffic received according to the terms of the Company's operating agreements with its foreign partners are recognized as revenue as the return traffic is received and processed. The Company has entered into operating agreements with telecommunications carriers in foreign countries under which international long-distance traffic is both delivered and received. Under these agreements, the foreign carriers are contractually obligated to adhere to the policy of the FCC, whereby traffic from the foreign country is routed to international carriers, such as the Company, in the same proportion as traffic carried into the country. Mutually exchanged traffic between the Company and foreign carriers is settled through a formal settlement policy at agreed upon rates-per-minute. The Company records the amount due to the foreign partner as an expense in the period the traffic is terminated. When the return traffic is received in the future period, the Company generally realizes a higher gross margin on the return traffic compared to the lower margin (or sometimes negative margin) on the outbound traffic. Revenue recognized from return traffic was approximately $2.2 million, $824,000 and $2.6 million, or 0.7%, 0.3% and 1.6% of net revenues in 2000, 1999 and 1998, respectively. There can be no assurance that traffic will be delivered back to the United States or what impact changes in future settlement rates, allocations among carriers or levels of traffic will have on net payments received and revenues recorded by the Company. INTERNATIONAL OPERATIONS The consolidated statements of operations include amounts related to non-U.S. subsidiaries. In 2000, 1999 and 1998, the Company recognized net revenues of approximately $54.3 million, $8.7 million and $23,000 and net losses of approximately $33.8 million, $11.7 million and $340,000 attributable to non-U.S. subsidiaries, respectively. 57 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) COST OF SERVICES Cost of services represents direct charges from vendors that the Company incurs to deliver service to its customers. These include costs of leasing capacity and rate-per-minute charges from carriers that originate, transmit, and terminate traffic on behalf of the Company. CASH AND CASH EQUIVALENTS The Company considers all short-term investments with original maturities of 90 days or less to be cash equivalents. Cash equivalents consist primarily of money market accounts that are available on demand. RESTRICTED CASH AND PLEDGED SECURITIES In connection with the Senior Notes and Warrants Offering (see Note 6), the Company was required to placed $52 million of net proceeds into marketable securities to fund the first six payments of interest on the Senior Notes through May 2001. Interest on the Senior Notes is payable semi-annually in May and November. The Company was also required to provide a bank guarantee of $180,000 in connection with one of its foreign operating agreements. This guarantee is in the form of a certificate of deposit. The restricted cash and pledged securities are shown as restricted cash and pledged securities in the accompanying consolidated balance sheets. The Company has both the positive intent and ability to hold the pledged securities and restricted cash until maturity. Accordingly, these instruments are carried at amortized cost. As of December 31, 2000 and 1999, restricted cash and pledged securities totaled $9.9 million and $28.1 million, respectively. OTHER CURRENT ASSETS During 1998, the Company advanced an aggregate of approximately $1.4 million to certain of its employees and officers. The secured loans bear interest at a rate of 7.87% per year, and were originally due and payable on December 31, 1999. At December 31, 1999, $1.4 million of these loans were outstanding and are included in other current assets in the accompanying consolidated balance sheets. All but $472,000 of these amounts were collected in January 2000, and the remaining payment terms were extended until December 31, 2000. During 2000, an additional $1.0 million was advanced to employees and officers. At December 31, 2000, the Company established a valuation reserve against 100% of the loans outstanding, as payments were not received as of December 31, 2000. LONG-LIVED ASSETS Long-lived assets, including property and equipment, identifiable intangible assets to be held and used and goodwill, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets may not be recoverable. To determine recoverability of its long-lived assets, the Company evaluates the probability that future undiscounted net cash flows will be less than the carrying amount of assets. If future estimated undiscounted net cash flows are less than the carrying amount of long-lived assets, then such assets are written down to their fair value. The Company considers expected cash flows and estimated future operating results, trends, and other available information in assessing whether the carrying value of the assets is impaired. 58 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) The Company's estimates of anticipated gross revenues, the remaining estimated lives of tangible and intangible assets, or both, could be reduced significantly in the future due to changes in technology, regulation, available financing, or competitive pressures. As a result, the carrying amount of long-lived assets could be reduced materially in the future. Due to significant adverse changes in market conditions during the fourth quarter of 2000, the Company performed an impairment analysis of its long-lived assets and certain identifiable intangibles to be held and used in accordance with Statement on Financial Accounting Standards ("SFAS") No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" ("SFAS No. 121"). See Note 16. INVESTMENTS Investments in 50% or less-owned enterprises over which the Company can exercise significant influence are accounted for using the equity method. Under the equity method, investments are carried at cost plus or minus the Company's equity in all increases and decreases in the investee's net assets after the date of acquisition, subject to impairment losses recorded. FOREIGN CURRENCY TRANSLATION The asset and liability accounts of the Company's foreign subsidiaries are translated at year-end exchange rates and revenue and expenses are translated at average exchange rates prevailing during the period. The resulting translation adjustments are included in other comprehensive income. PROPERTY AND EQUIPMENT Property and equipment are stated at historical cost. Depreciation is provided for financial reporting purposes using the straight line method over the following estimated useful lives: Property and leasehold improvements......................... 5 years Communications equipment (including undersea cable)......... 7 to 20 years Computer and office equipment............................... 3 to 5 years Long-distance communications equipment includes assets financed under facility agreements and capital lease obligations of approximately $51.2 million and $25.0 million as of December 31, 2000 and 1999, respectively. Maintenance and repairs are expensed as incurred. Replacements and improvements are capitalized. Gains on sales of assets are recognized at the time of sale or deferred to the extent required by accounting principles generally accepted in the United States. INTERNAL USE COMPUTER SOFTWARE In accordance with Statement of Position 98-1, "Accounting for the Costs of Software Developed or Obtained for Internal Use," the Company capitalized approximately $4.6 million and $2.1 million for the years ended December 31, 2000 and 1999, respectively, in connection with its internal use software systems. Such costs are amortized principally over 3 to 5 years and are included in property and equipment in the accompanying consolidated balance sheets. 59 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) DEBT DISCOUNTS AND DEFERRED FINANCING COSTS Deferred financing costs totaled $7.0 million and $6.3 million as of December 31, 2000 and 1999, net of accumulated amortization of $1.7 million and $964,000 in 2000 and 1999, respectively. Deferred financing costs were incurred primarily in connection with the 2000 and 1999 financing agreements and the 1998 Senior Notes and Warrants Offering and are included in other long-term assets in the accompanying consolidated balance sheets. Debt discounts associated with the Senior Notes and Warrants Offering total $1.6 million and $1.8 million, net of amortization of $551,000 and $340,000 in 2000 and 1999, respectively, and are reflected as a reduction of the Senior Notes. Additional discounts associated with the Allied financing obtained during 2000 total $1.0 million, net of amortization of $115,000 at December 31, 2000, and are reflected as a reduction of the Allied Facility in the accompanying balance sheets. Debt discounts and deferred financing costs are amortized as interest expense over the remaining life of the debt using the effective interest method. CONCENTRATION OF CREDIT RISK Financial instruments that potentially subject the Company to a concentration of credit risk are accounts receivable. Residential accounts receivable consist of individually small amounts due from geographically dispersed customers. Carrier accounts receivable represent amounts due from long-distance carriers. The Company's allowance for doubtful accounts is based on current market conditions. The Company's four largest carrier customers represented approximately 32% and 26% of gross accounts receivable as of December 31, 2000 and 1999, respectively. Revenues from one customer represented more than 10% of net revenues for the periods presented (see Note 12). Purchases from the five largest suppliers represented approximately 20%, 25% and 30% of cost of services for the years ended December 31, 2000, 1999 and 1998, respectively. Services purchased from two suppliers represented more than 10% of cost of services in the periods presented (see Note 12). One of these five largest suppliers, representing 5%, 4% and 4% of cost of services in the years ended December 31, 2000, 1999 and 1998, respectively, is based in a foreign country. INCOME TAXES The Company accounts for income taxes in accordance with SFAS No. 109, "Accounting for Income Taxes." SFAS No. 109 requires that deferred income taxes reflect the expected tax consequences on future years of differences between the tax bases of assets and liabilities and their bases for financial reporting purposes. Valuation allowances are established when necessary to reduce deferred tax assets to the expected amount to be realized. LOSS PER COMMON SHARE SFAS No. 128, "Earnings per Share," requires dual presentation of basic and diluted earnings per share on the face of the statements of operations for all periods presented. Basic earnings per common share excludes dilution and is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then 60 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) shared in the earnings of the entity. Weighted average common shares outstanding consist of the following as of December 31, 2000, 1999 and 1998 (in thousands): 2000 1999 1998 -------- -------- -------- Weighted average common shares outstanding--basic..... 13,676 9,411 8,945 Stock options and warrant equivalents................. -- -- -- ------ ----- ----- Weighted average common and equivalent shares outstanding--diluted................................ 13,676 9,411 8,945 ====== ===== ===== Options and warrants to purchase 3,012,516, 2,455,928 and 1,366,726 shares of common stock were excluded from the computation of diluted loss per share in 2000, 1999 and 1998, respectively, because inclusion of these options would have an anti-dilutive effect on loss per share. COMPREHENSIVE LOSS SFAS No. 130 requires the reporting of net income and other items recorded directly to the equity accounts. The objective is to report a measure of all changes in equity of an enterprise that result from transactions and other economic events of the period other than transactions with others. The Company's only component of other comprehensive loss represents the foreign currency translation adjustment recognized in the years ended December 31, 2000 and 1999. ADVERTISING COSTS In accordance with Statement of Position 93-7, "Reporting on Advertising Costs," costs for advertising are expensed as incurred within the fiscal year. Such costs are included in selling and marketing expenses in the accompanying consolidated statements of operations. RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No. 133, "Accounting for Derivative and Hedging Activities" ("SFAS No. 133"), which establishes accounting and reporting standards for derivative instruments including certain derivative instruments embedded in other contracts (collectively referred to as derivatives), and for hedging activities. SFAS No. 133, as amended, is effective January 1, 2001. The adoption of SFAS No. 133 is not expected to have a material effect on the Company's consolidated balance sheets or statements of operations. In December 1999, the SEC staff released Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101"), which provides guidance on the recognition, presentation and disclosure of revenue in financial statements. SAB 101 explains the SEC staff's general framework for revenue recognition, stating the criteria that must be met in order to recognize revenue. The adoption of SAB 101, as amended, did not have a material effect on the consolidated balance sheets or statements of operations of the Company. In March 2000, the FASB issued FASB Interpretation No. 44 ("FIN 44"), "Accounting for Certain Transactions Involving Stock Compensation." FIN 44 clarifies the application of Accounting Principles Board Opinion No. 25 in regards to the definition of an employee and the criteria for determining whether a plan qualifies as a non-compensatory plan. The Company adopted FIN 44 in July 2000. 61 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 2. ACCOUNTS RECEIVABLE: Accounts receivable consist of the following (in thousands): DECEMBER 31, ------------------- 2000 1999 -------- -------- Residential.............................................. $ 34,998 $24,598 Carrier.................................................. 33,222 44,548 -------- ------- 68,220 69,146 Allowance for doubtful accounts.......................... (16,809) (3,964) -------- ------- $ 51,411 $65,182 ======== ======= The Company has certain service providers that are also customers. The Company settles amounts receivable and payable from and to certain of these parties on a net basis. The Company is in the process of exiting the circuit switched carrier business. Correspondingly, the Company increased its allowance for doubtful accounts associated with those receivable balances. $10.0 million of Startec Global Operating Company ("Operating") and Startec Global Licensing Company ("Licensing") accounts receivable are pledged to Allied. The remainder of Operating and Licensing accounts receivable are pledged to NTFC (See Note 6.) Another of the Company's wholly owned subsidiaries, Vancouver Telephone Company ("VTC"), has pledged it's accounts receivable to Coast Business Credit Corporation ("Coast Facility"). 3. PROPERTY AND EQUIPMENT: Property and equipment, including equipment under capital leases, consist of the following at December 31, 2000 and 1999 (in thousands): ESTIMATED USEFUL LIVES 2000 1999 ------------- -------- -------- Property and leasehold improvements........ 5 years $ 8,535 $ 3,795 Communications equipment................... 7 to 20 years 99,254 51,642 Computer and office equipment.............. 3 to 5 years 22,838 11,583 -------- -------- 130,627 67,020 Less: accumulated depreciation and amortization............................. (24,366) (10,422) -------- -------- 106,261 56,598 Construction in progress................... 17,582 37,623 -------- -------- $123,843 $ 94,221 ======== ======== Depreciation expense for the years ended December 31, 2000, 1999 and 1998 was $14.3 million, $6.9 million and $2.3 million, respectively. Construction in progress consists primarily of network infrastructure equipment that has not been placed into service; accordingly, no depreciation has been recorded. All of Operating and Licensing property and equipment are pledged to NTFC. Another of the Company's subsidiaries, VTC, has pledged all of its property and equipment for the Coast Facility. 62 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 4. INTANGIBLE ASSETS: Intangible assets recorded in connection with the acquisitions made in 2000 and 1999 (Note 14) consist of the following (in thousands): DECEMBER 31, ------------------- 2000 1999 -------- -------- Telecommunications licenses............................... $ 2,311 $ 2,659 Covenant not-to-compete................................... -- 250 Goodwill.................................................. 31,873 20,025 ------- ------- 34,184 22,934 Accumulated amortization.................................. (1,949) (952) ------- ------- Intangible assets, net.................................... $32,235 $21,982 ======= ======= Goodwill and covenants not-to-compete are amortized on the straight-line basis over 20 and 5 years, respectively. The telecommunications licenses were acquired through the acquisition of Global Communications GmbH of Germany and Phone Systems and Network, Inc. of France ("PSN"). These licenses are being amortized on the straight line basis over 1 to 4 years. Amortization expense for the years ended December 31, 2000, 1999 and 1998 was $2.4 million, $0.9 million and $0, respectively. 63 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 5. ACCRUED EXPENSES: Accrued expenses consist of the following (in thousands): DECEMBER 31 ------------------- 2000 1999 -------- -------- Accrued interest........................................... $ 3,487 $3,047 Accrued telco expenses..................................... 2,849 886 Accrued marketing expense.................................. 713 156 Accrued payroll and related taxes.......................... 1,323 1,358 Accrued excise taxes and related charges................... 670 1,909 Other...................................................... 8,056 1,830 ------- ------ $17,098 $9,186 ======= ====== 6. DEBT: Debt consists of the following (in thousands): DECEMBER 31 ------------------- 2000 1999 -------- -------- Senior Notes, with a rate of 12% due May 2008............... $160,000 $160,000 NTFC Financing Agreement, with a weighted average rate of 10.2%, maturing January 2004 through May 2005............. 45,937 20,982 Congress Facility Agreement at the prime rate............... -- 14,191 IBM Financing Agreement, with a weighted average rate of 11.8%, maturing 2003...................................... 1,697 1,464 Ascend Financing Agreement, with a rate of 8.5%, maturing October 2003.............................................. 1,762 2,311 Allied Financing Agreement, with a rate of 15%, maturing June 2005................................................. 19,348 -- Coast Facility Agreement at the prime rate plus 3.5%, with a floor of 9%, maturing November 2002....................... 5,839 -- Notes payable to individuals and other...................... 679 -- Capital lease and other obligations......................... 1,103 262 -------- -------- 236,365 199,210 Less: debt discounts on Senior Notes........................ (1,556) (1,767) Less: current portion....................................... (76,365) (19,576) -------- -------- $158,444 $177,867 ======== ======== CURRENT CLASSIFICATION OF AMOUNTS OUTSTANDING UNDER VENDOR AND CREDIT FACILITIES The Company has classified amounts outstanding under its vendor and credit facilities as current in the accompanying financial statements due to noncompliance with certain financial and other covenants under the agreements or due to the subjective nature of certain covenants. If the respective lenders were to demand payment for such borrowings outstanding, it is unlikely that the Company would have the available resources to make such payments. 64 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 6. DEBT: (CONTINUED) SENIOR NOTES AND WARRANTS OFFERING In May 1998, the Company issued $160 million of 12% senior unsecured notes ("Senior Notes") with a final maturity of May 2008. Interest on the Senior Notes is payable semi-annually in arrears in May and November commencing November 1998. Warrants to purchase 200,226 shares of common stock at an exercise price of $24.20 per share were issued in conjunction with the Senior Notes issuance. The Senior Notes were recorded at a discount of $2.1 million to their face amount to reflect the fair market value attributable to the warrants. The warrants became exercisable in November 1998. The Company received proceeds of $155 million, net of offering expenses. Concurrent with the issuance, the Company used proceeds from the offering to purchase $52 million in U.S. Government obligations that were pledged to fund the first six interest payments. Approximately $9.6 million remains as of December 31, 2000, to cover the May 2001 payment. Without additional financing in 2001 or restructuring the Senior Notes, it is unlikely that the Company will meet the November 2001 interest payment on the Senior Notes. Interest expense on the Senior Notes was approximately $19.9 million, $20.0 million and $12.3 million for the years ended December 31, 2000, 1999 and 1998, respectively. Accrued interest as of December 31, 2000 and 1999, was $2.4 million and $2.4 million respectively. As of December 31, 2000, no warrants issued in connection with the Senior Notes have been exercised. Under the terms of the Senior Notes, the Company is subject to certain covenants which, among other things, restrict the ability of the Company to incur additional indebtedness, pay dividends or make distributions in respect to capital stock or make certain restricted payments; create liens; or merge or sell all or substantially all of its assets. The Senior Notes are redeemable at the option of the Company, in whole or in part on or after May 15, 2003, at the redemption prices set forth below, plus accrued and unpaid interest and liquidated damages as defined in the indenture, if any, to the date of redemption. REDEMPTION YEAR PRICE ---- ---------- 2003............................................. 106 % 2004............................................. 104 % 2005............................................. 102 % 2006 (and thereafter)............................ 100 % In addition, at any time prior to May 15, 2001, through proceeds of a public equity offering, the Company may redeem up to 35% of the Senior Notes originally outstanding at a redemption price of 112% of the principal amount thereof, plus accrued and unpaid interest and liquidated damages, if any, to the date of redemption. Upon a change of control, the Company will be required to offer to repurchase the outstanding Senior Notes at a price equal to 101% of the principal amount thereof, plus accrued and unpaid interest and liquidated damages, if any, to the date of purchase. The Senior Notes are unsecured obligations of the Company and rank pari passu in right of payment with all other existing and future unsecured and unsubordinated obligations of the Company unless expressly noted. NTFC FINANCING AGREEMENT In June 2000, the Company entered into a five-year term loan with a principal balance of $50 million with NTFC Capital Corporation, a financing arm of GE Capital ("NTFC Facility"). This 65 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 6. DEBT: (CONTINUED) loan represents an increase of $15 million over the original $35 million facility entered into in December 1998 with NTFC. Advances under the original $35 million mature on January 31, 2004 and advances under the $15 million increase mature on May 31, 2005. The NTFC Facility may be used to finance the continued expansion of Startec's Internet initiatives and transport business, additional development of Wireless Applications Protocol, applications of its Internet portals, expansion of Voice over Internet Protocol ("VoIP") services, acquisitions and working capital for general corporate purposes. The outstanding borrowings on the NTFC Facility carry interest rates ranging from 8.91% to 10.65%, with a weighted average interest rate of 10.2%. Principal and interest payments are due monthly. Under the terms of the NTFC Facility, the Company is subject to certain financial and operational covenants, including but not limited to minimum cash levels of $20 million during 2001, minimum EBITDA, restrictions on the Company's ability to pay dividends and level of indebtedness. The NTFC Facility is secured by a pledge of all shares of Startec Global Operating Company ("Operating Company") owned by the Company, and by a first priority security interest in all of the Operating Company's assets. As of March 31, 2001, the Company was not in compliance with the NTFC covenants and has classified amounts outstanding as current in the accompanying consolidated balance sheets. Interest expense on the NTFC Facility was approximately $3.9 million and $0.9 million for the years ended December 31, 2000 and 1999, respectively. In April 2001, in connection with the Allied financing transactions, described below, the Company amended the NTFC Facility. Pursuant to the amendment, NTFC agreed to waive certain defaults and revise certain financial covenants. In connection with this amendment, the Company used $7.625 million of the proceeds from the Allied accounts-receivable purchase facility with Allied to pay NTFC overdue loan payments, prepayments and a $125,000 commitment fee. The Company also agreed to issue a stock purchase warrant to NTFC to purchase 25,000 shares of the Company's common stock upon any restructuring of the Senior Notes. CFC FACILITY AGREEMENT In June 1999, the Company entered into a three year Loan and Security Agreement with Congress Financial Corporation ("CFC Facility"), a subsidiary of First Union National Bank, for up to $30 million. In June 2000, the Company repaid and terminated the CFC Facility two years ahead of the original term. Extraordinary losses of approximately $902,000 incurred with this extinguishment consisted of a one-time payment to Congress Financial Corporation and unamortized deferred financing costs. There was no tax effect for recording this extraordinary loss. The CFC Facility, secured by trade accounts receivable, was used to finance equipment, undersea cables and the expansion of the Company's facilities. The CFC Facility bore interest at the prime rate effective on the date of borrowing. Principal and interest on the CFC Facility was repaid through collections from trade accounts receivable. During 2000 and 1999, all borrowings on the CFC Facility carried an interest rate of 7.5%. Interest expense on the CFC Facility was approximately $425,000 and $273,000 for the years ended December 31, 2000 and 1999, respectively. IBM FINANCING AGREEMENT In July 1999, the Company entered into a three year vendor financing facility for up to $5 million with IBM Credit Corporation (the "IBM Facility"). The IBM Facility may be used to finance the purchase of IBM hardware and software from IBM under a capital lease structure. Borrowings under the IBM Facility bear interest at a fixed rate, determined at the date of purchase equal to the average 66 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 6. DEBT: (CONTINUED) yield to maturity of the five-year Treasury Note plus a rate adjustment which varies by the type of equipment purchased. The outstanding borrowings on the IBM Facility carry interest rates ranging from 6.9% to 15.4% with a weighted average interest rate at December 31, 2000, of 11.8%. Interest expense on the IBM Facility was approximately $184,000 and $34,000 for the years ended December 31, 2000 and 1999, respectively. ASCEND FINANCING AGREEMENT In May 1999, the Company entered into a vendor financing facility for up to $20 million bearing interest at 8.5% with Ascend Credit Corporation ("Ascend Facility"). The Ascend Facility may be used to finance equipment purchased from Ascend under a capitalized lease structure. Interest expense was approximately $168,000 and $58,000 for the years ended December 31, 2000 and 1999, respectively. ALLIED FACILITY In June 2000, the Company entered into a $20 million unsecured facility from Allied with a balloon payment due at maturity in June 2005. The Allied Facility may be used for general corporate purposes, including, without limitation, the purchase of telecommunications assets. The Allied Facility bears interest at the fixed rate of 15% per annum and is payable semi-annually, in arrears, at the fixed rate of 10% per annum. In connection with entering into the Allied Facility, the Company issued a stock purchase warrant to Allied pursuant to which, at any time and from time to time until June 30, 2005, Allied is entitled at its sole option to purchase an aggregate of 125,000 shares of common stock at an exercise price of $11.21 per share, subject to certain antidilution adjustments. Under the terms of the Allied Facility, the Company is subject to certain financial and operational covenants, including but not limited to restrictions on the Company's ability to pay dividends and level of indebtedness. Amounts outstanding are also subject to acceleration upon a material adverse change in the business. After July 1, 2002, the Company can prepay all or part of this loan without penalty. Interest expense on the Allied Facility was approximately $1.7 million for the year ended December 31, 2000. In April 2001, two of the wholly owned subsidiaries of the Company, Operating and Licensing, together borrowed an aggregate of $20 million from Allied. These funds were distributed to the parent company as a dividend. The proceeds were used to repay the Company's outstanding indebtedness under the Allied Facility. As a result, the parent company no longer has any indebtedness to Allied, but Operating and Licensing are jointly indebted to Allied for $20 million, $10 million of which is secured by their accounts receivable and $10 million of which is unsecured. This indebtedness bears interest at a fixed rate of 15% per annum, payable semi-annually in arrears, at the fixed rate of 10% per annum. A balloon payment is due at maturity in 2005, but the indebtedness may be prepaid at any time without penalty. In addition, the Company is subject to certain financial and operational covenants, including limitations on its ability to incur additional indebtedness. In addition, Operating and Licensing entered into a twenty-four month revolving accounts-receivable purchase facility with Allied, resulting in net proceeds of approximately $14.3 million, approximately $7.625 million of which was used to pay NTFC overdue loan payments, prepayments and a commitment fee of $125,000. The proceeds of this purchase facility may be used for general corporate purposes including payments on the NTFC Facility as described above. Under the purchase facility, Allied purchased an interest in the accounts receivable of Operating and Licensing. The annual discount rate payable by the Company with respect to the purchase price is 16%. During the two-year term of the facility, Allied is obligated to use proceeds from collection of the accounts receivable to 67 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 6. DEBT: (CONTINUED) purchase additional interests in other accounts receivable up to a maximum aggregate amount of $15 million, assuming that the Company remains in compliance with the financial and other covenants pursuant to this facility. COAST FACILITY In May 2000, the Company entered into a credit facility for up to $12.0 million the Coast Facility due in November 2002. The Coast Facility may be used to satisfy various operating liabilities. The interest rate on the Coast facility is the Prime Rate plus 3.5%, with a floor of 9%. Interest expense on the Coast Facility was approximately $847,000 for the year ended December 31, 2000. COMMERCIAL LOAN AGREEMENT In July 1997, the Company entered into a loan agreement ("Loan") with a commercial bank ("Lender"). In December 1998, the Company terminated the Loan. In connection with the termination, the Company recognized an extraordinary loss of $514,000 related to the write-off of deferred financing costs and debt discounts related to the Loan. In connection with the Loan, the Company issued the Lender warrants to purchase 539,800 shares of the Company's common stock at $8.46 per share. Vesting on the remaining warrants was contingent on the occurrence of certain events. In December 1997, as a result of the Company's completed initial public offering of common stock, the remaining warrants were retired. The warrants were valued at $823,000 and are classified as a component of stockholders' equity. As of December 31, 2000, warrants to acquire 725,126 shares of common stock remain outstanding and expire July 1, 2002. Debt maturities as of December 31, 2000, excluding capital lease obligations, are as follows (in thousands); 2001.............................................. 76,031 2002.............................................. -- 2003.............................................. -- 2004.............................................. -- 2005.............................................. -- Thereafter........................................ 158,444 -------- $234,475 ======== 7. COMMITMENTS AND CONTINGENCIES: LEASES The Company leases office space and equipment under non-cancelable operating leases. Rent expense was approximately $4.6 million, $2.3 million and $1.0 million for the years ended December 31, 2000, 1999 and 1998, respectively. The terms of the office lease require the Company to pay a proportionate share of real estate taxes and operating expenses. The Company also leases equipment 68 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 7. COMMITMENTS AND CONTINGENCIES: (CONTINUED) under capital lease obligations. The future minimum commitments under lease obligations are as follows (in thousands): CAPITAL OPERATING FOR THE YEAR ENDING DECEMBER 31, LEASES LEASES -------------------------------- -------- --------- 2001...................................................... $ 350 $ 2,738 2002...................................................... -- 2,372 2003...................................................... -- 2,264 2004...................................................... -- 2,262 2005...................................................... -- 1,375 Thereafter................................................ -- 2,960 ----- ------- 350 $13,971 ======= Less--Amounts representing interest....................... (16) Less--Current portion..................................... (334) ----- Long-term portion......................................... $ -- ===== LEASE WITH RELATED PARTY The Company has entered into an agreement with an affiliate of a stockholder to lease capacity in certain undersea fiber optic cable. The agreement grants a perpetual right to use the cable and requires ten semiannual payments of $38,330 beginning in June 1996. The Company is required to pay a proportional share of the cost of operating and maintaining the cable. The Company can cancel this agreement without further obligation, except for amounts related to past usage, at any time. LITIGATION Certain claims and suits have been filed or are pending against the Company. In management's opinion, resolution of these matters will not have a material impact on the Company's financial position or results of operations and adequate provision for any potential losses has been made in the accompanying consolidated financial statements. 8. STOCKHOLDERS' EQUITY (DEFICIT): COMMON AND PREFERRED STOCK In November 2000, the Company issued 1,885,000 shares of voting common stock for net proceeds of approximately $6.7 million through a private placement. The Company did not register these shares for resale within the prescribed period following the issuance of such shares. As a result, the Company was required to issue an additional 188,500 shares. The Company has accrued the fair value of this obligation as of December 31, 2000, in the accompanying financial statements. In May 2000, the Company issued 1,377,800 shares of unregistered common stock for net proceeds of approximately $15.4 million through a private placement. The Company subsequently registered the shares for resale. 69 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 8. STOCKHOLDERS' EQUITY (DEFICIT): (CONTINUED) In December 1999, the Company issued 1,875,000 shares of voting common stock for net proceeds of approximately $29.0 million through a private placement. The Company subsequently registered the shares for resale in January 2000. In 1997, the Board of Directors authorized 100,000 shares of $1.00 par value preferred stock. In 1999, the Board of Directors approved an increase in the authorized shares of common and preferred stock. In 1999, total common and preferred shares authorized increased to 40,000,000 and 1,000,000. The Board of Directors has the authority to issue these shares and to determine the price, rights, preferences, privileges and restrictions, including voting rights, of those shares without further vote or action by the stockholders. In October 1997, the Company completed an Initial Public Offering of its common stock (the "Initial Public Offering"). Together with the exercise of the overallotment option in November 1997, the Initial Public Offering placed 3,277,500 shares of common stock at a price of $12.00 per share, yielding net proceeds (after underwriting discounts, commissions, and other professional fees) to the Company of approximately $35 million. STOCK OPTION PLANS In August 1997, the stockholders of the Company approved the 1997 Performance Incentive Plan (the "Performance Plan"). The Performance Plan provides for the award to eligible employees of the Company and others of stock options, stock appreciation rights, restricted stock, and other stock-based awards, as well as cash-based annual and long-term incentive awards. In 1998, the Board of Directors and stockholders approved an increase in the shares authorized for issuance under the Performance Plan to 18.5% of the common shares outstanding. The options expire ten years from the date of grant and vest ratably over five years. The Performance Plan provides that all outstanding options become fully vested in the event of a change in control, as defined. As of December 31, 2000 and 1999, approximately 740,256 and 264,689 options, respectively, were available for grant under the Performance Plan. The Company's Amended and Restated Stock Option Plan, reserves 270,000 shares of voting common stock to be issued to officers and key employees under terms and conditions to be set by the Company's Board of Directors. In conjunction with the Company's January 20, 1997, amendment to the plan, all options were cancelled and certain options were reissued at their original exercise prices, and compensation expense was recognized for the excess of the fair value of the common stock over the exercise price of the related options. The Company recognized approximately $131,000 in compensation expense for the year ended December 31, 1997, as the vesting of the options accelerated upon completion of the Initial Public Offering. On December 14, 1998, the Company repriced 581,150 options outstanding, which had exercise prices ranging between $10.00 and $26.75 per share to the then market price of $9.00 per share. This was the Company's first and only repricing of options and the repricing did not benefit executive officers, affiliates, or major stockholders. 70 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 8. STOCKHOLDERS' EQUITY (DEFICIT): (CONTINUED) A summary of the status of the Company's stock option plans as of December 31, 2000, 1999 and 1998 and changes during the years ending on those dates is presented in the following chart: 2000 1999 1998 --------------------- --------------------- -------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE PRICE PER PRICE PER PRICE PER OPTIONS SHARE OPTIONS SHARE OPTIONS SHARE --------- --------- --------- --------- -------- --------- Options outstanding at January 1,............................... 1,835,802 $12.91 743,600 $ 9.64 531,666 $ 9.96 Granted............................ 830,990 11.58 1,248,652 14.47 977,900 10.54 Exercised.......................... (56,460) 8.86 (48,500) 8.69 (125,816) 1.85 Canceled........................... (322,942) 14.22 (107,950) 10.30 (640,150) 12.81 --------- ------ --------- ------ -------- ------ Options outstanding at December 31,.............................. 2,287,390 $12.35 1,835,802 $12.91 743,600 $ 9.64 --------- ------ --------- ------ -------- ------ Options exercisable at December 31,.............................. 461,116 $11.76 161,450 $ 9.78 76,530 $ 9.23 ========= ====== ========= ====== ======== ====== The following table summarizes information about stock options outstanding at December 31, 2000: OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------- ----------------------- WEIGHTED AVERAGE WEIGHTED WEIGHTED REMAINING AVERAGE AVERAGE RANGE OF NUMBER CONTRACTUAL PRICE PER NUMBER PRICE PER EXERCISE PRICES OUTSTANDING LIFE SHARE EXERCISABLE SHARE --------------- ----------- ----------- --------- ----------- --------- $ 1.85--$ 6.00............................ 363,550 9.76 $ 4.82 18,250 $ 3.66 $ 8.00--$ 8.50............................ 26,000 6.23 8.29 13,400 8.11 $ 9.00--$12.00............................ 992,260 8.34 9.77 250,900 9.11 $12.25--$16.56............................ 230,800 8.26 13.59 74,930 13.84 $18.16--$18.50............................ 551,080 9.01 18.45 103,636 18.45 $21.50--$27.87............................ 123,700 9.13 26.43 -- -- --------- ---- ------ ------- ------ $ 1.85--$27.87............................ 2,287,390 8.74 $12.35 461,116 $11.76 ========= ==== ====== ======= ====== The Company has elected to account for stock and stock rights in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees." SFAS No. 123, "Accounting for Stock-Based Compensation," established an alternative method of expense recognition for stock-based compensation awards to employees based on fair values. The Company has elected not to adopt SFAS No. 123 for expense recognition purposes. Pro forma information regarding net income is required by SFAS No. 123 and has been determined as if the Company had accounted for its employee stock options under the fair value method prescribed by SFAS No. 123. The fair value of options granted during the years ended December 31, 2000, 1999, and 1998 was estimated at the date of grant using a fair value option pricing model with the following weighted-average assumptions: risk-free interest rates of 5.5%, 6%, and 4.56%, respectively; no dividend yield; weighted-average expected lives of the options of five years, and expected volatility of 100%, 87%, and 95%, respectively. The fair value option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price characteristics 71 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 8. STOCKHOLDERS' EQUITY (DEFICIT): (CONTINUED) that are significantly different from those of traded options. Because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its stock rights. The weighted-average fair value of options granted during 2000, 1999 and 1998, was $8.02 per share, $7.76 per share and $5.47 per share, respectively. For purposes of pro forma disclosures, the estimated fair value of options is amortized to expense over the estimated service period. If the Company had used the fair value accounting provisions of SFAS No. 123, the pro forma net loss for 2000, 1999 and 1998 would have been approximately $133,062,000, $50,292,000 and $20,130,000, respectively, or $9.73, $5.34 and $2.25 per share, respectively. The provisions of SFAS No. 123 are not required to be applied to awards granted prior to January 1, 1995. The impact of applying SFAS No. 123 may not necessarily be indicative of future results. Under the Performance Plan, the Company has granted options to acquire 57,500 shares of the Company's common stock to the Company's consultants in lieu of payment for certain consulting services to be performed in the future. Pursuant to SFAS No. 123, the Company recognized deferred compensation of $668,000 for the fair value of these options, as calculated using a fair value option pricing model, using the weighted average assumptions described above. For the years ended December 31, 2000, 1999 and 1998, the Company recognized expense of $124,000, $218,000 and $51,000, respectively, related to these options over the estimated service periods of the consultants. STOCKHOLDER RIGHTS PLAN The Board of Directors has adopted a stockholder rights plan ("Rights" and "Rights Plan"), which is designed to protect the rights of its stockholders and deter coercive or unfair takeover tactics. It is not in response to any acquisition proposal. Preferred stock purchase rights have been granted as a dividend at the rate of one Right for each outstanding share of common stock held of record as of the close of business on April 3, 1998. Each Right, when exercisable, would entitle the holder thereof to purchase 1/1,000th of a share of Series A Junior Participating Preferred Stock ("Junior Preferred Stock") at a price of $175 per 1/1,000th share. The Company's Board of Directors designated 25,000 shares of the authorized Preferred Stock for this purpose. The Rights, which have no voting rights, will expire on March 25, 2008. At the time of adoption of the Rights Plan, the Rights are neither exercisable nor traded separately from the common stock. Subject to certain limited exceptions, the Rights will be exercisable only if a person or group, other than an Exempt Person, as defined in the Rights Plan, becomes the beneficial owner of 15% or more of the common stock or announces a tender or exchange offer which would result in its ownership of 15% or more of the common stock. Ten days after a public announcement that a person has become the beneficial owner of 15% or more of the common stock or ten days following the commencement of a tender or exchange offer which would result in a person becoming the beneficial owner of 15% or more of the common stock (the earlier of which is called the "Distribution Date"), each holder of a Right, other than the acquiring person, would be entitled to purchase a certain number of shares of common stock for each Right at one-half of the then-current market price. If the Company is acquired in a merger, or 50% or more of the Company's assets are sold in one or more related transactions, each Right would entitle the holder thereof to purchase common stock of the acquiring company at one half of the then-market price of such common stock. 72 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 8. STOCKHOLDERS' EQUITY (DEFICIT): (CONTINUED) At any time after a person or group becomes the beneficial owner of 15% or more of the common stock, the Board of Directors may exchange one share of common stock for each Right, other than Rights held by the acquiring person. Generally, the Board of Directors may redeem the Rights at any time until 10 days following the public announcement that a person or group of persons has acquired beneficial ownership of 15% or more of the outstanding common stock. The redemption price is $.001 per Right. The Rights Plan was amended by the Board of Directors on August 21, 1999 to raise the trigger threshold from 10% to 15% and to authorize the Board to take steps to preclude an inadvertant triggering of the Rights Plan. The Rights plan was further amended by the Board of Directors in October 2000 to give the Board of Directors the authority to prevent the triggering of the dilutive provisions of the Plan with respect to specific persons and transactions. WARRANT AND REGISTRATION RIGHTS The Company agreed to issue to certain underwriters of the Initial Public Offering, warrants to purchase up to 150,000 shares of common stock at an exercise price of $13.20 per share. The warrants are exercisable for a period of five years beginning October 1998. The holders of the warrants will have no voting or other stockholder rights unless and until the warrants are exercised. The fair value of these warrants was approximately $870,000 when issued, and is classified in stockholders' equity. Exercised warrants equaled 20,000, during 2000. No warrants were exercised in either 1999 or 1998. As of December 31, 2000, the Company has warrants outstanding of 725,126 in connection with debt issuances and agreements. Warrants issued in connection with the Senior Notes and Warrants Offering have an exercise price of $24.20 and expire in May 2008. Warrants issued in connection with the Commercial Loan Agreement have an exercise price of $8.46 and are exercisable for a period of five years beginning July 1997. These warrants expire on July 1, 2002. The holders of the warrants will have no voting or other stockholder rights unless and until the warrants are exercised. EMPLOYEE BENEFIT PLANS During 1998, the Company adopted the Startec Employee 401(K) Plan (the "Plan"), a defined contribution plan. Employees are eligible for the Plan after completing at least one year of service and attaining age 20. The Plan allows for employees to contribute up to 15% of their compensation. In September 1998, the Company adopted a contribution matching plan pursuant to which the Company, at its discretion, may contribute shares of the Company's common stock in an amount up to five percent of employee contributions. In the years ended December 31, 2000 and 1999, the Company contributed approximately 7,030 and 5,000 shares, respectively. These shares will vest ratably over a five year period from the date of employment. 9. INCOME TAXES: The Company has net operating loss carryforwards ("NOLs") for Federal income tax purposes of approximately $108,094,000 and $79,578,000, as of December 31, 2000 and 1999, respectively, which may be applied against future taxable income and expire between 2010 and 2020. The use of the NOLs is subject to statutory and regulatory limitations regarding changes in ownership. SFAS No. 109 requires that the tax benefit of NOLs for financial reporting purposes be recorded as an asset to the extent that 73 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 9. INCOME TAXES: (CONTINUED) management assesses the realization of such deferred tax assets is "more likely than not." A valuation reserve is established for any deferred tax assets that are not expected to be realized. As a result of historical and projected operating losses, a valuation allowance equal to the net deferred tax asset was recorded for all periods presented. The tax effect of significant temporary differences, which comprise the deferred tax assets and liabilities, are as follows (in thousands): DECEMBER 31, ---------------------- 2000 1999 -------- -------- Deferred tax assets: Net operating loss carryforwards....................... $41,746 $30,733 Allowance for doubtful accounts........................ 6,097 1,531 Contested liabilities.................................. 680 1,052 Other.................................................. 182 456 ------- ------- Total deferred tax assets............................ 48,705 33,772 ------- ------- Deferred tax liabilities: Depreciation........................................... 5,495 3,227 Other.................................................. 262 19 ------- ------- Total deferred tax liabilities....................... 5,757 3,246 ------- ------- Net deferred tax assets.................................. 42,948 30,526 Valuation allowance...................................... (42,948) (30,526) ------- ------- $ -- $ -- ======= ======= Pursuant to Section 448 of the Internal Revenue Code, the Company was required to change from the cash to the accrual method of accounting. The effect of this change was amortized over four years for tax purposes. 10. RELATED-PARTY TRANSACTIONS: The Company has an agreement with an affiliate of a stockholder of the Company that calls for the purchase and sale of long distance services. Revenues generated from this affiliate amounted to approximately $422,000, $825,000 and $1.9 million or 0.1%, 0.3% and 1.2% of total net revenues for the years ended December 31, 2000, 1999 and 1998, respectively. The Company was in a net accounts receivable position with this affiliate of approximately $301,000 and $286,000 as of December 31, 2000 and 1999, respectively. Services provided by this affiliate and recognized in cost of services amounted to approximately $113,000, $409,000 and $366,000 for the years ended December 31, 2000, 1999 and 1998, respectively. The Company also has a lease with an affiliate of a stockholder of the Company (see Note 7). The Company issued a loan to Mr. Mukunda in October 1998 in an amount equal to $400,000 at an interest rate of 7.67%. Effective October 25, 2000, the amount of the loan was increased to $961,000. As of December 31, 2000, the Company established a valuation reserve against 100% of the loan outstanding. 74 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 11. BUSINESS SEGMENT DATA: The Company changed the composition of its reportable segments during 2000. Previously, the Company had classified its operations into two industry segments, traditional telecommunications services and IP services. The traditional telecommunications service segment was evaluated by management on a regional basis. The IP services segment was evaluated by management on a product basis. In 2000, the Company stopped evaluating services by product, and began evaluating all services by region. In addition, the Company views traffic terminating on its IP network as IP revenue. The IP revenue represents wholesale VoIP and residential and business traffic. All other traffic is considered to be circuit switched revenue. Restatement of prior period segment amounts is impractical and in accordance with SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," the Company will present segment information for 2000, the year in which the change occurred, under the old method and under the new method. The Company evaluates the performance of its segments based primarily on Earnings before Interest, Taxes, Depreciation, Amortization and loss on impairment ("EBITDA"). The Company's interest income and expense is included in the consolidated Federal income tax return of the Company and its subsidiaries and is allocated based upon the relative contribution to the Company's consolidated general and administrative expense. The majority of the Company's selling, general, and administrative cost is incurred by the North American operations. However, selling, general, and administrative cost is allocated to the Company's other segments based on the total head count for the Company. The following table presents revenues and other financial information on a segmented basis based on product, which was the old method, as of and for the year ended December 31, 2000 (in thousands): LONG DISTANCE TELECOMMUNICATIONS IP ------------------------------ ------------------- NORTH AMERICA EUROPE ASIA ESTART VOIP CONSOLIDATED -------- -------- -------- -------- -------- ------------ Net revenues............................. $138,911 $11,519 $ 3,493 $117,005 $53,619 $324,547 Gross margin............................. 9,407 2,081 1,144 37,488 15,494 65,614 Selling, marketing, general and administrative expense................. 31,661 9,683 4,838 47,300 6,322 99,804 EBITDA................................... (22,254) (7,602) (3,694) (9,812) 9,172 (34,190) Depreciation and amortization expense.... 8,076 236 485 7,410 521 16,728 Interest expense......................... 27,519 59 1 128 -- 27,707 Interest income.......................... 2,720 14 24 54 -- 2,812 Fixed Assets, gross...................... 85,960 35,403 16,194 9,565 1,087 148,209 Total assets............................. $174,166 $48,986 $17,230 $ 9,720 $ 3,908 $254,010 75 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 11. BUSINESS SEGMENT DATA: (CONTINUED) The following table presents revenues and other financial information on a regional and segmented basis for the year ended December 31, 1999 (in thousands); LONG DISTANCE TELECOMMUNICATIONS ------------------------------ NORTH AMERICA EUROPE ASIA IP CONSOLIDATED -------- -------- -------- ----------------- ------------ Net revenues............................. $263,611 $ 7,169 $ 5,691 $ -- $276,471 Gross margin............................. 31,747 (594) 2,583 -- 33,736 Selling, marketing, general and administrative expense................. 42,204 10,328 3,193 1,467 57,192 EBITDA................................... (10,457) (10,922) (610) (1,467) (23,456) Depreciation and amortization expense.... 6,364 657 732 -- 7,753 Interest expense......................... 21,794 19 -- -- 21,813 Interest income.......................... 5,019 22 36 -- 5,077 Fixed Assets, gross...................... 83,897 2,249 3,077 15,420 104,643 Total assets............................. 249,890 8,256 9,998 12,487 280,631 The following table presents revenues and other financial information on a segmented basis based on region, which is the new method, as of and for the year ended December 31, 2000 (in thousands): NORTH TOTAL AMERICA EUROPE ASIA CONSOLIDATED -------- -------- -------- ------------ Net revenues: IP................................ $150,836 $ 23,178 $ 7,260 $181,274 Circuit switched.................. 138,910 4,363 -- 143,273 -------- -------- ------- -------- Total net revenues.............. 289,746 27,541 7,260 324,547 Gross margin: IP................................ 49,706 2,518 2,546 54,770 Circuit switched.................. 9,406 1,438 -- 10,844 -------- -------- ------- -------- Total gross margin.............. 59,112 3,956 2,546 65,614 Selling, marketing, general and administrative expense............ 65,382 22,607 11,815 99,804 EBITDA.............................. (6,270) (18,651) (9,269) (34,190) Depreciation and amortization expense........................... 14,747 1,028 953 16,728 Interest expense.................... 27,638 69 -- 27,707 Interest income..................... 2,749 -- 63 2,812 Fixed assets, gross................. 96,612 35,403 16,194 148,209 Total assets........................ $187,794 $ 48,986 $17,230 $254,010 The net book value of the Company's long-lived assets located in the United States were $82,383,000 and $83,897,000 as of December 31, 2000 and 1999, respectively. 76 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 11. BUSINESS SEGMENT DATA: (CONTINUED) Substantially all of the Company's revenues for each period presented were derived from long-distance telecommunications service calls originated within the United States and terminated outside the United States. Net revenues terminated by geographic area were as follows (in thousands): FOR THE YEAR ENDED DECEMBER 31, --------------------------------- 2000 1999 1998 --------- --------- --------- Asia Pacific Rim.............................. $ 92,336 $102,809 $ 72,274 Middle East/North Africa...................... 37,933 43,373 30,303 Sub-Saharan Africa............................ 23,043 26,718 13,020 Eastern Europe................................ 27,679 25,180 15,539 Western Europe................................ 34,903 12,346 2,725 North America................................. 45,321 7,785 5,661 South America and Other....................... 63,332 58,260 21,647 -------- -------- -------- Total......................................... $324,547 $276,471 $161,169 ======== ======== ======== 12. SIGNIFICANT CUSTOMERS AND SUPPLIERS: A significant portion of the Company's net revenues is derived from a limited number of customers. During 2000, 1999 and 1998, the Company's five largest carrier customers accounted for approximately 18%, 35% and 61% of net revenues, respectively. No customers accounted for ten percent or more of net revenues in 2000. One customer accounted for ten percent or more of net revenues in 1999 and 1998. The Company's agreements and arrangements with its carrier customers generally may be terminated on short notice without penalty. The following customer provided 10% or more of the Company's total net revenues in the years indicated (in thousands): FOR THE YEAR ENDED DECEMBER 31, ------------------------------ 2000 1999 1998 -------- -------- -------- WorldCom, Inc....................................... * $61,927 $38,289 ------------------------ * Represents less than 10% of the total. SIGNIFICANT SUPPLIERS A significant portion of the Company's cost of services is purchased from a limited number of suppliers. The following suppliers provided 10% or more of the Company's total cost of services in the year indicated (in thousands): FOR THE YEAR ENDED DECEMBER 31, ------------------------------ 2000 1999 1998 -------- -------- -------- WorldCom, Inc....................................... * $22,213 * Pacific Gateway Exchange............................ * * $14,421 ------------------------ * Represents less than 10% of the total 77 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 13. FAIR VALUE OF FINANCIAL INSTRUMENTS: The fair value of certain financial assets and liabilities are shown below: DECEMBER 31, 2000 DECEMBER 31, 1999 ---------------------- ---------------------- CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE -------- -------- -------- -------- Financial assets: Pledged short-term marketable securities.......... $ 9,859 $ 9,844 $ 28,108 $ 29,401 Financial liabilities: Senior Notes, excluding debt discount............. 160,000 9,600 160,000 129,600 Vendor financing and credit facilities.............. $ 76,031 $64,860 $ 38,948 $ 38,948 Short-term marketable securities and the Senior Notes are valued based on quoted market prices. The fair values of the vendor financing and credit facilities are estimated based on expected future payments discounted at the Company's incremental borrowing rate. The carrying amounts for current assets, restricted cash and current liabilities other than vendor financing and the credit facilities approximate their fair value due to their short maturity. The fair value of notes payable to individuals and others and notes payable to related parties cannot be reasonably and practicably estimated due to the unique nature of the related underlying transactions and terms. However, given the terms and conditions of these instruments, if these financial instruments were with unrelated parties, interest rates and payment terms could be different than the currently stated rates and terms. 78 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 14. ACQUISITIONS: In the first quarter of 2000, the Company acquired several VoIP termination facilities from various vendors for approximately $2.2 million in cash and approximately $1.9 million in common stock. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of approximately $4.1 million to goodwill. Purchase price allocations have been completed on a preliminary basis and are subject to adjustment should new or additional facts about the business become known. In March 2000, the Company acquired VTC for approximately $1.1 million in cash and 520,463 shares of common stock valued at approximately $12.3 million. VTC provides domestic and international long distance services in Canada. VTC markets its telephone services to ethnic communities in Canada, including Taiwanese, Chinese, Romanian and Serbian communities. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of approximately $14.2 million to goodwill. Purchase price allocations have been completed on a preliminary basis and are subject to adjustment should new or additional facts about the business become known. In March 2000, the Company acquired DLC Enterprises Inc. ("DLC"), a New York-based telecommunications company for approximately $0.5 million. DLC offers dial-1, debit card and ISP services. DLC provides Startec with a management and sales force, proprietary billing and customer provisioning software and small business revenue. The acquisition of DLC facilitates the introduction of commercial services for ethnic and mid-sized business customers. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of approximately $1.1 million to goodwill. If certain financial criteria are met by April 30, 2001, the Company is subject to a contingent payment of approximately $5.6 million payable in cash of approximately $0.6 million and $5.0 million in the form of either cash or the Company's common stock. Purchase price allocations have been completed on a preliminary basis and are subject to adjustment should new or additional facts about the business become known. In March 2000, Startec acquired Global Villager Inc. for approximately $0.8 million in cash and 503,872 shares of the Company's common stock valued at approximately $13.2 million. Global Villager owns a leading bilingual Chinese/English web community, DragonSurf.com, which provides a range of content and services on its web site for the Chinese community. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of approximately $13.8 million to goodwill. Purchase price allocations have been completed on a preliminary basis and are subject to adjustment should new or additional facts about the business become known. In December 1999, the Company acquired SigmaNet Network Corporation ("SigmaNet") for approximately $648,000 in cash and 223,786 shares of Startec common stock valued at approximately $4.3 million. These shares were issued in January 2000. SigmaNet provides Internet services under the name of IAOL, including Internet access and a Web portal for the Asian Indian community. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of $4.9 million to goodwill. In July 1999, the Company acquired the fixed assets and customers of Worldwide Telecommunications Company Limited, Infinity Telecommunications Limited and Pacific Direct, Inc. (collectively "Worldwide Group") for approximately $200,000 in cash and 54,482 shares of common stock valued at $790,000. Worldwide Group provides voice and data services to businesses and 79 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 14. ACQUISITIONS: (CONTINUED) individuals in the Hong Kong, China region. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of $1.1 million to goodwill. In February 1999, the Company acquired a 64.6% ownership interest in Phone Systems and Network, Inc. of France ("PSN") for approximately $3.8 million in cash and 425,000 shares of the common stock. The Company acquired an additional 20.4% ownership interest through a cash tender offer and open market purchases for a total ownership interest of approximately 85%. Total consideration amounted to approximately $11.3 million, including acquisition costs. The Company recognized approximately $10.5 million in intangible assets associated with the acquisition. PSN is a facilities based provider in France, with switches in both Paris and Switzerland and additional capacity on a switch located in the United Kingdom. PSN also provides services on a switchless reseller basis in Belgium. Common shares of PSN are traded on the Nouveau Marche Exchange in France. In November 1998, the Company acquired PCI Communications, Inc. ("PCI") for $2.65 million. PCI is a provider of voice and data services located in the Pacific Rim island of Guam. PCI has signatory status on the TPC-5, Guam-Filipinos and China-U.S. cables. The acquisition will allow Startec to access a U.S. based satellite line of sight that extends from Southeast Asia to Central Europe. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of $1 million to goodwill and $250,000 to a covenant not to compete agreement. In December 1998, the Company acquired Global Communications GmbH of Germany ("Global") for $5.4 million. Global has a Class IV nationwide telecommunications license for Germany, an interconnection agreement with Deutsche Telekom and a Siemens EWSD switch located in Dusseldorf. The purchase price was allocated to the net assets acquired based upon the estimated fair value of such assets, which resulted in an allocation of $2.5 million to goodwill and a telecommunications license. The Company has accounted for all of the referenced acquisitions using the purchase method. Accordingly, the results of operations of the acquired companies are included in the accompanying consolidated statements of operations of the Company, as of the date of their respective acquisition. The Company's summarized, unaudited consolidated pro forma results of operations, assuming the above transactions occurred on January 1, 1999 are as follows (in thousands, except per share amounts): FOR THE YEAR ENDED DECEMBER 31, -------------------- 2000 1999 --------- -------- (UNAUDITED) Net revenues........................................... $ 327,887 $292,422 Loss from operations................................... (100,951) (30,143) Loss before extraordinary item......................... (127,321) (47,274) Net loss............................................... (128,223) (47,274) Basic and diluted net loss per common share: Net loss before extraordinary item................... (9.31) (5.02) Net loss per common share............................ (9.38) (5.02) 80 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 14. ACQUISITIONS: (CONTINUED) Operations for SigmaNet, Global Villager and DLC were not significant for 2000 and 1999. Operations for PSN were not significant for January 1999. These were eliminated from the pro forma table. 15. INVESTMENTS: In March 2000, the Company acquired a 19.9% ownership interest in Datalink Telecommunications Limited ("Datalink") in exchange for 200,000 shares of the Company's common stock valued at $3.92 million. Datalink is a telecommunications provider incorporated in Canada that owns and operates a fiber optic telecommunications network to emerging countries. During the second quarter of 2000, the Company received a $375,000 note payable from Datalink due within one year at 12% interest per year. At year-end, Startec provided a valuation reserve against the note and recorded the expense within general and administrative expenses within the accompanying statements of operations. In May 1999, the Company entered into an agreement to acquire up to a 49% fully diluted ownership interest in Dialnet Communications Limited ("Dialnet") for up to $1.6 million. Dialnet provides value added voice and data services in India. Pursuant to the agreement, which became effective July 1999 upon approval by the government of India, the Company made a total investment of $1 million, and also extended $600,000 in credit to Dialnet. Through July 2002, the Company can require that the face amount of Dialnet's outstanding debt be converted into common stock of Dialnet. As of December 31, 2000, the Company had an equity investment of $1.3 million in Dialnet, and $600,000 outstanding under the loan. In February 1999, the Company acquired a 20% equity ownership interest in BCH Holding Company, Inc. ("BCH") with operations in Poland, for approximately $1.2 million. Concurrent with the acquisition, Startec received a $2.5 million note payable from BCH convertible at Startec's option into common shares equivalent to an additional 28% fully diluted ownership interest of BCH. BCH is a reseller of international voice and a licensed Internet service provider in Poland. During the second and third quarters of 2000, the Company extended an additional $0.5 million to BCH. At year-end, based on the financial condition of BCH, the Company provided a valuation reserve against the entire $3.0 million loan to BCH and recorded the expense within general and administrative expenses in the accompanying consolidated statements of operations. 16. IMPAIRMENT LOSSES: SIGMANET AND GLOBAL VILLAGER. In the fourth quarter of 2000, in its efforts to reduce operating losses and conserve cash, the Company decided to abandon certain of its web portal services. As a result, the Company discontinued its web portal operations to the Asian Indian community that was operating under the name of IAOL and the Company's bilingual Chinese/English Web community, DragonSurf.com. The Company obtained IAOL and DragonSurf.com in December 1999 and March 2000, respectively, through the acquisitions of SigmaNet and Global Villager. As the Company could not continue to fund the operating cash needs of the web portals and as management did not foresee a near term improvement in the cash flows of the respective portals, the Company decided to shut down their operations. As a result, the Company recognized an impairment charge of approximately $17.4 million for the unamortized intangibles and goodwill of IAOL and DragonSurf.com. 81 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 16. IMPAIRMENT LOSSES: (CONTINUED) SUNRISE. Pursuant to an agreement with Sunrise World Communications, Inc. ("Sunrise") dated September 29, 2000, the Company acquired a 40% equity interest in Sunrise and a 5 year carrier services agreement in exchange for certain VoIP termination facilities and the forgiveness of accounts receivable due the Company from Sunrise. Sunrise provides Internet communications service between the United States and certain emerging countries. During the first nine months of 2000, the Company earned revenue of approximately $24.5 million from terminating traffic on behalf of Sunrise. The corresponding receivable together with certain other deposits and VoIP termination facilities, with a carrying value of $4.3 million, were exchanged for Sunrise common stock and a favorable carrier services agreement. The Company valued the investment in Sunrise at approximately $29.6 million based on the carrying value of assets exchanged and as supported by a third party appraisal for the value of Sunrise's equity. The transaction was negotiated at a time when Internet communications entities were highly valued in the market place. Given the dramatic downturn in market valuations and liquidity concerns facing telecommunication entities, the Company expensed the investment in Sunrise during its fourth quarter. While management continues to believe that the carrier services agreement provided by Sunrise is valuable to the Company, there can be no assurance that these services will continue to be available to the Company over the term of the agreement. ASIAN TELECOMMUNICATIONS BUSINESS. Given the Company's historical operating losses, current liquidity concerns and a significant decline in the market value of the Company's common stock, the Company reviewed its long-lived assets including identifiable intangible assets and goodwill for impairment. The Company performed its review based upon projected probable undiscounted cash flows for its respective operating regions. The Company concluded that the probable undiscounted cash flows for its Asian telecommunications business would be less than the carrying value of the respective long-lived assets. This reflects the Company's reduction in force in its Hong Kong operations. The Company recognized an impairment charge of $3.3 million to reduce long-lived assets and goodwill with a carrying value of approximately $16 million to estimated fair value. 17. QUARTERLY FINANCIAL DATA (UNAUDITED): The following quarterly financial data has been prepared from the financial records of the Company without audit, and reflects all adjustments which, in the opinion of management, were 82 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 17. QUARTERLY FINANCIAL DATA (UNAUDITED): (CONTINUED) necessary for a fair presentation of the results of operations for the interim periods presented. The operating results for any quarter are not necessarily indicative of results for any future period. 2000 ------------------------------------------- FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER(1) -------- -------- -------- ---------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Net revenues......................................... $ 77,376 $ 89,166 $ 83,198 $ 74,807 Gross margin......................................... 14,486 16,802 18,391 15,935 Loss from operations................................. (7,117) (8,627) (7,539) (77,890) Net loss............................................. (12,176) (15,624) (15,127) (85,428) Basic and diluted loss per common share: Net loss........................................... (1.05) (1.16) (1.05) (5.60) Weighted average common shares outstanding-- basic and diluted................................ 11,615 13,498 14,345 15,247 1999 ----------------------------------------- FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER -------- -------- -------- -------- (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) Net revenues......................................... $ 57,714 $ 61,916 $ 76,616 $ 80,225 Gross margin......................................... 5,060 7,188 10,071 11,417 Loss from operations................................. (10,260) (7,899) (6,860) (6,190) Net loss............................................. (13,827) (11,922) (11,272) (11,214) Basic and diluted loss per common share: Net loss........................................... (1.51) (1.28) (1.19) (1.15) Weighted average common shares outstanding-- basic and diluted................................ 9,144 9,390 9,422 9,681 ------------------------ (1) Loss from operations in the fourth quarter includes an impairment charge of $50.3 million (Note16), additional bad debt provisions of $8 million reflecting management's decision to exit the carrier circuit switched business, and valuation reserves against BCH, Datalink and employee receivables of $5.0 million. 18. SUBSEQUENT EVENTS: On January 23, 2001, the Company gave notice to Capsule Communications, Inc. ("Capsule") that Capsule had breached the terms of the merger agreement entered into on November 2, 2000 among the Company, Capsule, Gold & Appel Transfer, S.A. and Foundation for the International Nongovernmental Development of Space. On January 25, 2001, Capsule issued a press release stating that it had terminated the merger agreement. On March 12, 2001, the Company, Capsule, Gold & Appel and Foundation for the International Nongovernmental Development of Space announced that they had resolved all issues resulting from the termination of the merger agreement. In connection with the termination of the merger agreement, the Company agreed to make a series of payments to Capsule over several months in 2001 for an aggregate of approximately $400,000. In March 2000, the Company paid $100,000 in connection with this settlement. 83 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 18. SUBSEQUENT EVENTS: (CONTINUED) In March 2001, the Company executed an engagement letter with Jefferies & Company, Inc., pursuant to which Jefferies has agreed to act as the Company's financial advisor. In connection with the execution of the engagement letter, the Company paid Jefferies a non-refundable cash fee of $200,000. In addition, the Company has agreed to pay Jefferies additional fees in connection with the services to be provided under the engagement letter in the future. Under certain circumstances, the Company may be required to issue warrants to Jefferies exercisable into shares of its voting common stock. In March 2001, the Company issued an additional 185,500 shares of its voting common stock to the investors who had participated in the Company's November 2000 private placement. These shares were issued in compensation for the Company's failure to timely file a registration statement with respect to the resale of the shares of voting stock originally issued in connection with the November 2000 private placement. On April 5, 2001, the Company received written notification from the Nasdaq Listing Qualifications Department, stating that the Company's common stock no longer met certain requirements for continued listing on the Nasdaq National Market. As permitted under Nasdaq's rules, the Company has appealed the delisting determination. The Company's request for an appeal will suspend the delisting process pending a decision by the Nasdaq Listing Qualifications Panel. The Company does not believe it will be eligible to list its securities on the Nasdaq Small Cap Market should the securities be delisted from the Nasdaq National Market. In April 2001 two of the Company's wholly owned subsidiaries, Startec Global Operating Company and Startec Global Licensing Company, borrowed an aggregate of $20 million from Allied, which funds were distributed to the Company and used to repay the Company's outstanding indebtedness under the Allied Facility. As a result, the Company no longer has any indebtedness to Allied, but the Company's two subsidiaries are indebted to Allied for $20 million, $10 million of which is secured by their accounts receivable and $10 million of which is unsecured. In addition, Operating and Licensing entered into an accounts-receivable purchase transaction with Allied, resulting in net proceeds of approximately $14.3 million, approximately $7.625 million of which was used to pay NTFC overdue loan payments, prepayments and a commitment fee of $125,000. In conjunction with the restructuring of the Allied indebtedness described below, the Company amended the NTFC Facility. Pursuant to the amendment, NTFC agreed to waive certain defaults and revise certain financial covenants. In connection with this amendment, the Company paid NTFC $7.5 million in loan prepayments and a $125,000 commitment fee. The Company also agreed to issue NTFC a stock purchase warrant to purchase 25,000 shares of voting stock upon any restructuring of the Senior Notes. 84 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. The following table sets forth the names and other information about our executive officers and directors. Our board of directors is divided into three classes of directors, each containing, as nearly as possible, an equal number of directors. Directors within each class are elected to serve three-year terms, and approximately one-third of the directors stand for election at each annual meeting of the stockholders. AGE POSITION WITH COMPANY -------- ------------------------------------------ Ram Mukunda............................... 42 Chairman, President, and Chief Executive Officer Prabhav V. Maniyar........................ 41 Chief Financial Officer and Director Nazir G. Dossani.......................... 59 Director Richard K. Prins.......................... 44 Director Sudhaker Shenoy........................... 54 Director Anthony A. Das............................ 47 Chief Operating Officer, VoIP and Managed Network Services John H. Wolaver........................... 55 Chief Operating Officer, North American Operations David Venn................................ 40 Chief Operating Officer, European Operations The business experience, principal occupation and employment of our executive officers and directors are as follows: Ram Mukunda is our founder. Prior to 1989, Mr. Mukunda was an Advisor in Strategic Planning with INTELSAT, an international consortium responsible for global satellite services. While at INTELSAT, he was responsible for issues relating to corporate, business, financial planning and strategic development. Prior to joining INTELSAT, he worked as a fixed-income analyst with Caine, Gressel. Mr. Mukunda earned an M.S. in electrical engineering from the University of Maryland. Prabhav V. Maniyar joined us as Chief Financial Officer in January 1997. From June 1993 until he joined us, Mr. Maniyar was the Chief Financial Officer of Eldyne, Inc., Unidyne Corporation and Diversified Control Systems, LLC, collectively known as the Witt Group of Companies. The Witt Group of Companies was acquired by the Titan Corporation in May 1996. From June 1985 to May 1993, Mr. Maniyar held progressively more responsible positions with NationsBank. Mr. Maniyar earned a B.S. in Economics from Virginia Commonwealth University and an M.A. in Economics from Old Dominion University. Nazir G. Dossani joined us as a director in October 1997 at the completion of our initial public offering. Mr. Dossani was recently appointed Senior Vice President for Asset/Liability Management and Research at the Federal Home Loan Mortgage Corp. From January 1993 until his recent promotion, he was Vice President for Asset/Liability Management. Prior to this position, Mr. Dossani was Vice President--Pricing and Portfolio Analysis at the Federal National Mortgage Association. Mr. Dossani received a Ph.D. in regional science from the University of Pennsylvania and an M.B.A. from the Wharton School of the University of Pennsylvania. Richard K. Prins joined us as a director in October 1997 at the completion of our initial public offering. Mr. Prins is a Senior Vice President with Ferris, Baker Watts, Incorporated. From July 1988 85 through March 1996, he served as Managing Director of Investment Banking with Crestar Securities Corporation. Mr. Prins received an M.B.A. from Oral Roberts University and a B.A. from Colgate University. He currently serves on the Board of Directors of Path Net, Inc., a domestic telecommunications company, Socrates Corporation (SOCT) and The Association for Corporation Growth, National Capital Chapter. Sudhakar Shenoy joined us as a director in 1999. He is the founder and Chief Executive Officer of Information Management Consultants, an internationally recognized systems and software development firm serving the public and private sectors for more than the last five years. Mr. Shenoy received a B.A. in electrical engineering from the Indian Institute of Technology, an M.S. in electrical engineering and an M.B.A. from the University of Connecticut Schools of Engineering and Business Administration, respectively. Anthony A. Das has been our Chief Operating Officer for Online Services since November 2000. Mr. Das joined us in February 1997. Prior to joining us, Mr. Das was a senior consultant at Armitage Associates between 1995 and 1997. Prior to joining Armitage Associates, he served as a senior career executive in the Office of the Secretary, Department of Commerce from 1993 to 1995. From 1990 to 1993, Mr. Das was the Director of Public Communication at the State Department. John H. Wolaver joined us as Chief Operating Officer, North American operations, in December 1999. Mr. Wolaver was most recently an executive vice president and chief operating officer of United Telesis, LLC in Washington, D.C. Mr. Wolaver has almost 20 years of telecommunications experience, particularly in the areas of sales and marketing. At Sprint, he was a director in the partnership marketing/consumer services group. At MCI he was a director in corporate marketing. Mr. Wolaver received a B.A. in liberal arts from Purdue University, an M.A. in finance and statistics from Central Michigan University and an M.B.A. from The Wharton School of the University of Pennsylvania. David Venn joined us as Chief Operating Officer, European Operations, in December 1999. Mr. Venn was a senior vice president and then the chief operating officer from 1997 to 2000 for International Wireless Communications Inc. in London, England. From 1994-97, Mr. Venn was the managing director of London Interconnect Ltd. In 1998, while Mr. Venn was a senior vice president of International Wireless Communications, Inc., it filed for protection under Chapter 11 of the Federal bankruptcy laws. The company emerged from Chapter 11 status in February 2000. Mr. Venn holds a bachelor of science in telecommunications engineering from University South West and an M.B.A. from Ashridge Management College, both in the U.K. SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE Section 16(a) of the Securities Exchange Act of 1934requires our directors and executive officers, and persons who own more than 10% of our common stock, to file reports of ownership and changes in their ownership of our common stock with the Securities and Exchange Commission. Such insiders are required these regulations to furnish us with copies of all Section 16(a) reports that they file. Based solely on our review of the copies of such reports (and any amendments thereof) received by us, or written representations from such reporting persons that no Form 5s were required for those persons, we believe that our directors and executive officers complied with all applicable Section 16(a) filing requirements for fiscal 2000. ITEM 11. EXECUTIVE COMPENSATION The following table sets forth certain summary financial information concerning compensation for services in all capacities awarded to, earned by or paid to, our chief executive officer and our four 86 other most highly compensated executive officers who were serving at the end of 2000, whose aggregate cash and cash equivalent compensation exceeded $100,000. SUMMARY COMPENSATION TABLE LONG TERM COMPENSATION ANNUAL COMPENSATION ------------------------------------- ------------------------ SECURITIES ALL OTHER ANNUAL NAME AND PRINCIPAL POSITION YEAR SALARY BONUS UNDERLYING OPTIONS COMPENSATION(1) --------------------------- -------- -------- --------- ------------------ ---------------- Ram Mukunda........................ 2000 $569,910 $ -- -- $35,426 President, Chief Executive Officer 1999 324,987 -- 40,000 35,426 1998 401,117(2) -- 30,000 35,000 Prabhav V. Maniyar................. 2000 368,627 -- -- 15,846 Chief Financial Officer 1999 233,645 -- 21,000 15,846 1998 180,042 -- 15,000 18,000 Anthony A. Das..................... 2000 166,067 -- -- -- Chief Operating Officer, 1999 152,305 -- 21,000 -- Online Services 1998 124,167 -- 15,000 -- John H. Wolaver (3)................ 2000 213,231 -- -- -- Chief Operating Officer, 1999 -- -- 36,500 -- North American Operations 1998 -- -- -- -- ------------------------ (1) This amount includes the value of an automobile allowance. (2) Includes $102,000 accrued salary for prior periods. (3) Mr. Wolaver joined us on December 28, 1999. DIRECTOR COMPENSATION Directors do not receive cash compensation for their service on our board of directors. In the future, however, directors who are not employees may receive meeting fees, committee fees and other compensation relating to their service. Each member of our board of directors who is not an employee is entitled to receive an automatic grant of options to purchase 10,000 shares of our common stock upon joining the board and additional options to purchase 10,000 shares per year of service thereafter. All directors will be reimbursed for reasonable out-of-pocket expenses incurred in connection with their attendance at board and committee meetings. EMPLOYMENT AGREEMENTS Startec entered into an employment agreement with Mr. Ram Mukunda on July 1,1997, pursuant to which Mr. Mukunda holds the positions of President, Chief Executive Officer and Treasurer, was paid an initial annual base salary of $250,000 per year, is entitled to participate in the 1997 Stock Incentive Plan, is eligible to receive a bonus of up to 40% of his base salary as determined by the Compensation Committee based upon our financial and operating performance, and is entitled to receive an automobile allowance of $1,500 per month. In addition, the agreement provides that, if there is a "Change of Control," Mr. Mukunda will receive, for the longer of 12 months or the balance of the term under his employment agreement (which initially could be for a period of up to three years), the following benefits: (1) a severance payment equal to $20,830 per month; (2) a pro rata portion of the bonus applicable to the calendar year in which such termination occurs; (3) all accrued but unpaid base salary and other benefits as of the date of termination; and (4) such other benefits as he was eligible to participate in at and as of the date of termination. Effective July 1, 1998, Mr. Mukunda's annual base salary was increased to $325,000. 87 We also entered into an employment agreement with Prabhav V. Maniyar on July 1, 1997, pursuant to which Mr. Maniyar holds the positions of Senior Vice President, Chief Financial Officer and Secretary, was paid an initial annual base salary of $175,000 per year, is entitled to participate in the 1997 Stock Incentive Plan, is eligible to receive a bonus of up to 40% of his base salary as determined by the Compensation Committee based upon our financial and operating performance, and is entitled to receive an automobile allowance of $750 per month. Mr. Maniyar resigned effective February 22, 2000 as secretary. In addition, the agreement provides that if there is a "Change of Control," Mr. Maniyar will receive, for the longer of 12 months or the balance of the term under his employment agreement (which initially could be for a period of up to three years), the following benefits: (1) a severance payment equal to $14,580 per month; (2) a pro rata portion of the bonus applicable to the calendar year in which such termination occurs; (3) all accrued but unpaid base salary and other benefits; and (4) such other benefits as he was eligible to participate in at and as of the date of termination. Effective July 1, 1998, Mr. Maniyar's annual base salary was increased to $225,000. Each of Mr. Mukunda's and Mr. Maniyar's agreements have an initial term of three years and are renewable for successive one year terms. In addition, the agreements also contain provisions which restrict the ability of Messrs. Mukunda and Maniyar to compete with Startec for a period of one year following termination. For purposes of the agreements, a "Change of Control" shall be deemed to have occurred if (A) any person becomes a beneficial owner, directly or indirectly, of our securities representing 30% or more of the combined voting power of all classes of our outstanding voting securities; or (B) during any period of two consecutive calendar years individuals who at the beginning of such period constitute the board of directors, cease for any reason to constitute at least a majority thereof, unless the election or nomination for the election by our stockholders of each new director was approved by a vote of at least two-thirds of the directors then still in office who either were directors at the beginning of the two-year period or whose election or nomination for election was previously so approved; or (C) our stockholders approve a merger or consolidation with any other company or entity, other than a merger or consolidation that would result in our voting securities outstanding immediately prior thereto continuing to represent more than 50% of the combined voting power of our voting securities or such surviving entity outstanding immediately after such merger or consolidation (exclusive of the situation where the merger or consolidation is effected in order to implement a recapitalization in which no person acquires more than 30% of the combined voting power of our outstanding securities); or (D) our stockholders approve a plan of complete liquidation or an agreement for the sale or disposition of all or substantially all of our assets. On December 28, 1999, we entered into an employment agreement with David Venn. Under the agreement, Mr. Venn receives a base salary of $225,000 and is eligible for an annual bonus of up to 40% of his base salary as determined by our board of directors or president. The agreement provides for limited severance payments if he is terminated without cause equal to his base salary for a period of six months. The agreement expires on December 31, 2002 unless extended and contains confidentiality and non-competition provisions. Mr. Venn's employment with the Company was terminated without cause, effective January 2001. STOCK OPTION GRANTS The following table sets forth certain information regarding grants of options to purchase common stock made by the Compensation Committee during the fiscal year ended December 31, 2000, to each 88 of the officers listed in the summary compensation table above. No stock appreciation rights were granted during 2000. On April 12, 2001, the closing price of our common stock was $0.47. REALIZED VALUE AT ASSUMED ANNUAL RATES NUMBER OF PERCENTAGE OF OF STOCK PRICE SECURITIES TOTAL OPTIONS APPRECIATION FOR UNDERLYING GRANTED TO MARKET OPTIONS TERM(3) OPTIONS EMPLOYEES IN EXERCISE PRICE ON EXPIRATION --------------------- NAME GRANTED 2000(1) PRICE(2) GRANT DATE DATE 5% 10% ---- ---------- ------------- -------- ---------- ---------- -------- ---------- Ram Mukunda................. 40,000 3.21% $18.50 $18.16 12/28/09 $537,705 $1,362,650 Prabhav V. Maniyar.......... 21,000 1.69% 12.44 12.44 10/1/09c 276,492 697,751 Anthony A. Das.............. 21,000 1.68% 18.50 18.16 12/28/09 282,295 715,391 David Venn.................. 40,000 3.21% 18.50 18.16 12/28/09 537,705 1,362,650 John H. Wolaver............. 36,500 2.92% 18.50 18.16 12/28/09 490,656 1,243,418 ------------------------ (1) During 2000, options were granted to purchase a total of 1,248,652 shares of our common stock. (2) The exercise price was equal to or greater than the per share price of our common stock underlying the options on the date of grant. (3) Amounts reflected in these columns represent amounts that may be realized upon exercise of options immediately prior to the expiration of their term assuming the specified compounded rates of appreciation (5% and 10%) on our common stock over the term of the options. Actual gains, if any, on the stock option exercises and common stock holdings are dependent upon the timing of such exercise and the future performance of our common stock. There can be no assurance that the rates of appreciation assumed in this table can be achieved or that the amounts reflected will be received by the holder of the option. OPTION EXERCISES AND HOLDINGS The following table sets forth certain information as of December 31, 2000 regarding the number and value of options exercised during 2000 and unexercised options held by each of the officers listed in the summary compensation table above. No stock appreciation rights were exercised during 2000. AGGREGATED OPTION/SAT EXERCISES IN LAST FISCAL YEAR AND FISCAL YEAR END OPTION/SAR VALUE NUMBER OF SECURITIES VALUE OF UNEXERCISED UNDERLYING UNEXERCISED "IN-THE-MONEY" OPTIONS SHARES AT FISCAL YEAR-END FISCAL YEAR-END($) ACQUIRED ON VALUE REALIZED OPTIONS EXERCISABLE/ EXERCISABLE/ NAME EXERCISE(#) ($) UNEXERCISABLE UNEXERCISABLE(1) ---- ----------- -------------- ---------------------- ------------------------ Ram Mukunda.................. -- -- 6,000/64,000 76,125/642,000 Prabhav V. Maniyar........... -- -- 23,000/63,000 376,812/964,823 Anthony A. Das............... 9,000 111,375 3,000/46,500 53,813/634,595 David Venn................... -- -- -- /40,000 0/351,100 John H. Wolaver.............. -- -- --/36,500 0/320,379 ------------------------ (1) Options are "in-the-money" if the fair market value of underlying securities exceeds the exercise price of the options. On April 12, 2001, the closing price of our common stock was $0.47. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth information regarding the ownership of our common stock as of April 12, 2001, including options and warrants, by (i) each person known to be the beneficial owner of more than five percent of any class of our voting securities, (ii) each director the chief executive officer 89 and each of the four most highly compensated executive officers at the end of 2000, and (iii) all directors and executive officers as a group. AMOUNT AND NATURE OF BENEFICIAL NAME AND ADDRESS(1) OWNERSHIP(2) PERCENT OF CLASS ------------------- ------------ ---------------- Ram Mukunda(3).............................................. 3,548,675 21.6% Prabhav V. Maniyar(4)....................................... 157,516 * Sudhakar Shenoy(5).......................................... 6,000 * Nazir G. Dossani (6)........................................ 19,000 * Richard K. Prins(7)......................................... 21,000 * Anthony A. Das(8)........................................... 10,000 * David Venn(9)............................................... -- * John H. Wolaver(10)......................................... 8,500 * All Directors and Executive Officers as a group (8 persons).................................................. 3,762,191 31.2% Liberty Wanger Asset Management, L.P.(11)................... 933,000 5.7% 227 West Monroe Street, Suite 3000 Chicago, IL 60606 RS Investment Management Co. LLC(12)........................ 1,995,000 12.2% 388 Market Street, Suite 200 San Francisco, CA 94111 Zesiger Capital Group, LLC(13).............................. 2,667,100 16.3% 320 Park Avenue, 30th Floor New York, NY 10022 ------------------------ * Represents beneficial ownership of less than one percent of the outstanding shares of our class of common stock. (1) Unless otherwise noted, the address of all persons listed is c /o Startec Global Communications Corporation, 1151 Seven Locks Road, Potomac, MD 20854. (2) Beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission. Shares of our common stock subject to options, warrants or other rights to purchase which are currently exercisable or are exercisable within 60 days of December 31, 2000 are deemed beneficially owned for computing the percentage ownership of the persons holdings such options, warrants or rights, but are not deemed outstanding for computing the percentage ownership of any other person. Unless otherwise indicated, each person possesses sole voting and investment power with respect to the shares shown. (3) Includes exercisable options to purchase 20,000 shares of our common stock. Does not include unexercisable options to purchase 150,000 shares of common stock. (4) Includes exercisable options to purchase 40,200 shares of our common stock. Does not include unexercisable options to purchase 95,800 shares of common stock. (5) Includes exercisable options to purchase 5,000 shares of our common stock. (6) Includes exercisable options to purchase 10,000 shares of common stock. Does not include unexercisable options to purchase 20,000 shares of common stock. (7) Includes exercisable options to purchase 10,000 shares of common stock and a warrant to purchase 33,000 shares of common stock. Does not include unexercisable options to purchase 20,000 shares of common stock. 90 (8) Includes exercisable options to purchase 10,000 shares of common stock. Does not include unexercisable options to purchase 20,000 shares of common stock. (9) Does not include unexercisable options to purchase 40,000 shares of common stock. (10) Includes exercisable options to purchase 8,500 shares of common stock. Does not include unexercisable options to purchase 28,000 shares of common stock. (11) As reported on Schedule 13G filed with the SEC on February 14, 2001. (12) As reported on Schedule 13G/A filed with the SEC on February 15, 2001. (13) As reported on Schedule 13G filed with the SEC on December 6, 2000. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS We have an agreement with Companhia Santomensed De Telecommunicacoes, an affiliate of Blue Carol Enterprises Ltd., which currently holds 6.7% of the outstanding shares of our common stock, for the purchase and sale of long distance services. Revenues generated from this agreement amounted to approximately $1,900,000, $1,900,000 and $825,000, or 2%, 1% and 0.3% of our total revenues for the years ended December 31, 1997, 1998 and 1999, respectively. Services provided amounted to approximately $680,000, $366,000 and $409,000 of our costs of services for the years ended December 31, 1997, 1998 and 1999, respectively. We also have a lease agreement with an affiliate of Blue Carol, Companhia Portuguesa Radio Marconi, S.A. dated June 15, 1996, for rights to use undersea fiber optic cable at a cost of $38,330 semi-annually for five years on a resale basis. During the second quarter of 1998, loans to certain employees, including executive officers, were made on substantially the same terms, including interest rates. An aggregate of $1,488,238 was advanced to the employees, including $400,000 to Mr. Mukunda, and $550,000 to Mr. Maniyar. The loan to Mr. Mukunda was made in connection with the payment of taxes and other obligations. Mr. Maniyar's loan was granted in connection with his exercise of outstanding options to purchase common stock and the payment of taxes related thereto. Both loans bear interest at a rate of 7.87% per year. Mr. Maniyar's loan, including accrued interest, has been repaid. Principal and interest on Mr. Mukunda's loan were originally due on December 31, 2000. Effective October 25, 2000, the amount of the loan was increased to $961,000. As of December 31, 2000, the Company established a valuation reserve against 100% of the loan outstanding. One of our directors, Richard Prins, is a Senior Vice President of Ferris, Baker Watts, Incorporated. We engaged Ferris, Baker Watts in the second quarter of 2000 in connection with the original Allied transaction. 91 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K The following documents are filed as part of this Annual Report on Form 10-K: (a) 1. FINANCIAL STATEMENTS. The financial statements of the Company and the related Report of Independent Public Accountants are filed as Item 8 hereof. (a) 2. FINANCIAL STATEMENT SCHEDULE. The Financial Statement Schedule described below is filed as part of this report. Description: Schedule II--Valuation and Qualifying Accounts (a) 3. EXHIBITS. The Exhibits required to be filed pursuant to Form 10-K are identified in the Exhibit Index. (b) REPORTS ON FORM 8-K On November 13, 2000, we filed a Current Report on Form 8-K with the Securities and Exchange Commission to disclose (1) that we had entered into agreements with Capsule Communications, Inc., a Delaware corporation, and two of Capsule's shareholders, Gold & Appel Transfer, S.A. and Foundation for the International Non-Governmental Development of Space, for the merger of Capsule with and into one of our wholly owned subsidiaries; and (2) that we had amended our Shareholder Rights Agreement to grant our Board of Directors the authority to prevent the triggering of the dilutive provisions of the Agreement with respect to specific persons and transactions. 92 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized this 17th day of April 2001. STARTEC GLOBAL COMMUNICATIONS CORPORATION By /s/ PRABHAV V. MANIYAR ------------------------------------------ Prabhav V. Maniyar 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 amended, on the dates indicated. STARTEC GLOBAL COMMUNICATIONS CORPORATION SIGNATURE TITLE DATE --------- ----- ---- /s/ RAM MUKUNDA President, Chief Executive Officer, -------------------------------------- Treasurer and Chairman (Principal April 17, 2001 Ram Mukunda Executive Officer) /s/ PRABHAV V. MANIYAR Chief Financial Officer and Director -------------------------------------- (Principal Financial and April 17, 2001 Prabhav V. Maniyar Accounting Officer) -------------------------------------- Director April 17, 2001 Sudhakar V. Shenoy /s/ NAZIR G. DOSSANI -------------------------------------- Director April 17, 2001 Nazir G. Dossani /s/ RICHARD K. PRINS -------------------------------------- Director April 17, 2001 Richard K. Prins 93 STARTEC GLOBAL COMMUNICATIONS CORPORATION AND SUBSIDIARIES SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS (IN THOUSANDS) ADDITIONS ------------------------- CHARGED TO BEGINNING REVENUES AND CHARGED TO ENDING DESCRIPTION BALANCE EXPENSES OTHER(A) DEDUCTIONS BALANCE ----------- --------- ------------ ---------- ---------- -------- Reflected as reductions to the related assets: Provisions for uncollectible accounts (deductions from trade accounts receivable) Year ended December 31, 1998............. $2,353 $ 827 $329 $ (850) $ 2,659 Year ended December 31, 1999............. 2,659 3,993 271 (2,959) 3,964 Year ended December 31, 2000............. 3,964 16,542 264 (3,961) 16,809 Provisions for uncollectible other accounts and notes receivable Year ended December 31, 1998............. -- -- -- -- -- Year ended December 31, 1999............. -- -- -- -- -- Year ended December 31, 2000............. -- 4,969(b) -- -- 4,969 ------------------------ (a) Other represents reserves recognized in purchase accounting in 1998 and 1999. (b) This amount represents valuation allowances for employee and officer loans and both the BCH and Datalink notes receivable. 94 EXHIBIT INDEX EXHIBIT NUMBER DESCRIPTION -------------- ------------------------------------------------------------ 2.1**** Agreement and Plan of Reorganization dated June 30, 1998 by and between Startec Global Communications Corporation and Startec Global Holding Corporation 3.1**** Restated Certificate of Incorporation. 3.2**** Bylaws. 4.1* Specimen of Common Stock Certificate. 4.2* Warrant Agreement dated as of July 1, 1997 by and between Startec, Inc. and Signet Bank. 4.3* Form of Underwriters' Warrant Agreement (including Form of Warrant). 4.4* Voting Agreement dated as of July 31, 1997 by and between Ram Mukunda and Vijay and Usha Srinivas. 4.5*** Indenture, dated as of May 21, 1998, between the Company and First Union National Bank. 4.5.1++++++++ First Supplemental Indenture dated as of February 28, 1999 by and among Startec Global Holding Corporation, Startec Global Communications Corporation and First Union National Bank. 4.5.2++++++++ Amended and Restated First Supplemental Indenture dated as of February 28, 1999 by and among Startec Global Communications Corporation and First Union National Bank. 4.6*** Form of 12% Series A Senior Notes due 2008 4.7*** Registration Rights Agreement, dated as of May 21, 1998, among the Company, Lehman Brothers Inc., Goldman Sachs & Co. and ING Barings (U.S.) Securities, Inc. 4.8*** Warrant Agreement, dated as of May 21, 1998 by and between the Company and First Union National Bank, as Warrant Agent 4.9*** Form of Warrant (included as Exhibit A to Exhibit 4.8) 4.10*** Collateral Pledge and Security Agreement, dated as of May 21, 1998 by and between the Company and First Union National Bank, as Trustee 4.11** Shareholder Rights Agreement, dated as of March 26, 1998, between the Company and Continental Stock Transfer & Trust Company. 4.11.1++++ First Amendment dated as of August 21, 1999 to Shareholder Rights Agreement dated as of March 26, 1998, between Startec Global Communications Corporation and Continental Stock Transfer & Trust Company. 4.11.2++ Second Amendment dated November 8, 2000 to Shareholder Rights Agreement dated as of March 26, 1998, between Startec Global Communications Corporation and Continental Stock Transfer & Trust Company. 4.12++++ Second Supplemental Indenture dated as of 20 August 1999 by and between the Company and First Union National Bank, as Trustee 95 EXHIBIT NUMBER DESCRIPTION -------------- ------------------------------------------------------------ 4.13++++++ Stock Purchase Warrant issued by Startec Global Communications Corporation to Allied Capital Corporation on June 30, 2000. 10.1* Secured Revolving Line of Credit Facility Agreement dated as of July 1, 1997 by and between Startec, Inc. and Signet Bank. 10.2* Lease by and between Vaswani Place Limited Partnership and Startec, Inc. dated as of September 1, 1994, as amended. 10.3* Agreement by and between World Communications, Inc. and Startec, Inc. dated as of April 25, 1990. 10.4* Co-Location and Facilities Management Services Agreement by and between Extranet Telecommunications, Inc. and Startec, Inc. dated as of August 28, 1997. 10.5* Employment Agreement dated as of July 1, 1997 by and between Startec, Inc. and Ram Mukunda. 10.6* Employment Agreement dated as of July 1, 1997 by and between Startec, Inc. and Prabhav V. Maniyar. 10.7* Amended and Restated Stock Option Plan. 10.8* 1997 Performance Incentive Plan. 10.9* Subscription Agreement by and among Blue Carol Enterprises, Limited, Startec, Inc. and Ram Mukunda dated as of February 8, 1995. 10.10* Agreement for Management Participation by and among Blue Carol Enterprises, Limited, Startec, Inc. and Ram Makunda dated as of February 8, 1995, as amended as of June 16, 1997. 10.11* Service Agreement by and between Companhia Santomensed De Telecommunicacoes and Startec, Inc. as amended on February 8, 1995. 10.12*+ Lease Agreement between Companhia Protuguesa Radio Marconi, S.A. and Startec, Inc. dated as of June 15, 1996. 10.13*+ Indefeasible Right of Use Agreement between Companhia Portuguesa Radio Marconi, S.A. and Startec, Inc. dated as of January 1, 1996. 10.14*+ International Telecommunication Services Agreement between Videsh Sanchar Nigam Ltd. and Startec, Inc. dated as of November 12, 1992. 10.15*+ Digital Service Agreement with Communications Transmission Group, Inc. dated as of October 25, 1994. 10.16*+ Lease Agreement by and between GPT Finance Corporation and Startec, Inc. dated as of January 10, 1990. 10.17*+ Carrier Services Agreement by and between Frontier Communications Services, Inc. and Startec, Inc. dated as of February 26, 1997. 10.18*+ Carrier Services Agreement by and between MFS International, Inc. and Startec, Inc. dated as of July 3, 1996. 10.19*+ International Carrier Voice Service Agreement by and between MFS International, Inc. and Startec, Inc. dated as of June 6, 1996. 96 EXHIBIT NUMBER DESCRIPTION -------------- ------------------------------------------------------------ 10.20*+ Carrier Services Agreement by and between Cherry Communications, Inc. and Startec, Inc. dated as of June 7, 1995. 10.21*** Agreement by and between Northern Telecom Inc. and the Company, dated as of December 23, 1997 10.22*** Indefeasible Right of Use Agreement by and between Telegloble Cantat-3, Inc. and the Company, dated as of September 15, 1997 (Canus 1 Cable System). 10.23*** Indefeasible Right of Use Agreement by and between Teleglobe Cantat-3, Inc. and the Company, dated as of September 15, 1997 (Cantat 3 Cable System). 10.24# Loan and Security Agreement by and between Prabhav V. Maniyar and the Company, dated June 30, 1998 (as amended and related by agreement dated December 31, 1998. See Exhibit 10.41 below). 10.25# Lease by and between The Vaswani Place Corporation and the Company, dated as of October 27, 1998. 10.26# Indefeasible Right of Use Agreement by and between Cable & Wireless Inc. and the Company, dated June 9, 1998 (Gemini Cable System) 10.27# First Amendment to Lease by and between The Vaswani Place Corporation and the Company, dated May 11, 1998. 10.28# International Facilities License, United Kingdom 10.29## Columbus III Cable System Construction and Maintenance Agreement dated February 11, 1998. 10.30### TAT-14 Cable Network Construction and Maintenance Agreement dated as of September 2, 1998. 10.31### SEA-ME-WE Construction and Maintenance Agreement dated as of January 1, 1997. 10.32### Amendment dated as of July 8, 1998 by and between Cable & Wireless, Inc. and the Company to the Indefeasible Right of Use Agreement, dated as of June 9, 1998 (Gemini Cable System). 10.33### Rack Space Agreement by and between Americatel Corporation and the Company, dated as of July 27, 1998. 10.34### Rack Space Agreement by and between IXC Carrier, Inc. and the Company, dated as of July 6, 1998 (Los Angeles). 10.35### Rack Space Agreement by and between IXC Carrier, Inc. and the Company, dated as of August 19, 1998 (Dallas). 10.36### Co-Location Agreement by and between Espirit Telecom Benelux BV and the Company., dated as of September 21, 1998 10.37### Sublease Agreement by and between Information Systems & Networks, Inc. and the Company dated as of August 11, 1998. 10.38### Master Supply Agreement by and between TTN, Inc. and the Company dated as of September 21, 1998. 10.39##### Loan and Security Agreement by and between NTFC Capital Corporation and the Company, dated as of December 31, 1998. 97 EXHIBIT NUMBER DESCRIPTION -------------- ------------------------------------------------------------ 10.40##### Loan and Security Agreement by and between Ram Mukunda and the Company, dated as of October 8, 1998. 10.40.1 Loan and Security Agreement between Ram Mukunda and Startec Global Communications Corporation dated as of October 25, 2000. 10.41##### Loan and Security Agreement by and between Prabhav V. Maniyar and the Company, dated as of December 31, 1998. 10.42##### TPC-5 Cable Network IRU Agreement between Companhia Portuguesa Radio Marconi, SA and the Company, dated December 15, 1998. 10.43##### TPC-5 Cable Network Indefeasible Right of Use Agreement between KDD Corporation and the Company dated December 31, 1998. 10.44##### TAT-12/13 Cable Network IRU Agreement between Companhia Portuguesa Radio Marconi, SA and the Company, dated December 15, 1998. 10.45##### Lease between 36 North East Second Street, L.L.C and the Company executed on November 30, 1998. 10.46##### Lease between 36 North East Second Street, L.L.C and the Company executed on October 29, 1998. 10.47#### Stock Purchase Agreement dated as of November 30, 1998 by and between the Company and Pacific Systems Corporation 10.48#### Quota Purchase Agreement by and between Martin Otten and Rolf Otten, on the one part, and the Company, on the other part, effective as of December 31, 1998. 10.49++ Sublease Agreement by and between Ceridian Corporation and the Company dated January 8, 1999. 10.50+++ Purchase and License Agreement between Ascend Communications Inc. and Startec Global Operating Company dated on May 5, 1999. 10.51+++ Term Lease Master Agreement between IBM Corporation and Startec Global Operating Company dated as of June 22, 1999. 10.52+++ Loan and Security Agreement between Congress Financial Corporation and Startec Global Operating Company dated as of June 29, 1999. 10.53+++ Lease Agreement between the Rector, Church Wardens and Vestryment of Trinity Church in the City of New York and the Company dated as of April 23, 1999. 10.54++++ Billing and Collection Services Agreement between BC Tel Corporation and Startec Global Communications Company (Canada) dated 23 July, 1999. 10.55++++ Procedures of the Interexchange Carrier Group Agreement between BC Tel Corporation and Startec Global Communications Company (Canada) dated July 23, 1999. 10.56++++++ Investment and Loan Agreement between Startec Global Communications Corporation and Allied Capital Corporation dated June 30, 2000. 10.57++++++ $20,000,000 Promissory Note issued by Startec Global Communications Corporation to Allied Capital Corporation on June 30, 2000. 21.1 Subsidiaries of Company. 98 EXHIBIT NUMBER DESCRIPTION -------------- ------------------------------------------------------------ 23.1 Consent of Arthur Andersen LLP. ------------------------ * Incorporated by reference from the Company's Registration Statement on Form S-1 (SEC File No. 333-32753). ** Incorporated by reference from the Company's Current Report on Form 8-K filed on April 8, 1998 *** Incorporated by reference from the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1998 **** Incorporated by reference from the Company's Registration Statement on Form S-4 (SEC File No. 333-58247) # Incorporated by reference from the Company's Registration Statement on Form S-4 (SEC File No. 333-61779) ## Incorporated by reference from the Company's Registration Statement on Form S-1 (SEC File No. 333-64465) ### Incorporated by reference from the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1998. #### Incorporated by reference from the Company's Current Report on Form 8-K/A filed on February 12, 1999. ##### Incorporated by reference from the Company's Annual report on Form 10-K for the fiscal year ended 1998. + Portions of the Exhibit have been omitted pursuant to a grant of Confidential Treatment by the Securities and Exchange Commission under Rule 406 of the Securities Act of 1933, as amended, and the Freedom of Information Act. ++ Incorporated by reference from the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1999. +++ Incorporated by reference from the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1999. ++++ Incorporated by reference from the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1999. ++ Incorporated by reference from the Company's Current Report on Form-8K filed on November 13, 2000. ++++ Incorporated by reference from the Company's Current Report on Form-8K filed on August 25, 1999. ++++++ Incorporated by reference from the Company's Quarterly Report on Form-10Q filed on August 14, 2000. ++++++++ Incorporated by reference from the Company's Registration Statement on Form-S 3 (SEC File No. 333-44392). + Management contract or compensatory plan or arrangement required to be filed as an exhibit pursuant to Item 601 of Regulation S-K. 99