20080523Application.pdf

EARLY, LENNON, CROCKER & BARTOSIEWICZ, P.L.C.
ATTORNEYS AT LAW
900 COMERICA BUILDING
KALAMAZOO, MICHIGAN 49007-4752
TELEPHONE [phone]
FAX [phone]
www.earlylennon.com
GEORGE H. LENNON
DAVI G. CROCKER
MICHAEL D. O'CONNOR
GORDON C. MILLER
GARY P. BARTOSIEWICZ
BLAKE D. CROCKER
ROBERT M. TAYLOR
RON W. KIBREL
PATRCK D. CROCKER
ANDREW J. VORBRICH
TYREN R CUDNEY
MATTEW C. JUSTICE
OF COUNSEL
May 21,2008 ;UT?t-f-ò8-O L
JOHN T. PETERS, JR.
HAROLD E. FICHER, JR.
VINCENTT. EARLY
(1921-2001)
JOSEPH J. BURGlE
(1926-1992)
LAWRENCE M. BRENTON
(1956-2007)
RE: Neutral Tandem-Idaho, LLC
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Jean Jewell, Commission Secreta
Idaho Public Utilities Commission
Statehouse
4 72 West Washington Street
Boise,ID 83702
Dear Ms. Jewell:
Enclosed herewith for filing with the Commission, please find an original and three (3) copies of the
above captioned Corporation's Application for Authority to Provide Resold and Facilties-based
Local Exchange and Interexchange Services within the State of Idaho.
In addition, enclosed is a duplicate copy of this letter. Please date-stamp the duplicate and retu it
to me in the enclosed stamped, self-addressed envelope.
Should you have any questions, please contact me.
ROCKER & BARTOSIEWICZ, P.L.C.
In the Matter of the Application of )Neutral Tandem-Idaho, LLC )
For a Certificate of Public Convenience and )
Necessity to Provide Facilities-based and Resold )
Local Exchange and Interexchange Services )in the State of Idaho )
BEFORE THE IDAHO PUBLIC UTILITIES COMMISSION
lOoa I1A r 23
4f110:43
PUC Docket No:
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APPLICATION FOR AUTHORITY TO PROVIDE
RESOLD AND FACILITIES-BASED LOCAL EXCHANGE
AND INTEREXCHANGE TELECOMMUNICATIONS SERVICES
Neutral Tandem-Idaho, LLC ("Applicant") hereby applies to the Idaho Public Utilties
Commission ("Commission") for a Certificate of Public Convenience and Necessity to provide
facilities-based and resold local exchange and interexchange services within the State of Idaho
pursuant to Idaho Code §§ 61-526-528 and IDAPA 31.01.01.111. In support thereof, Applicant
provides the following information:
i. Proposed Services
Applicant seeks authority to provide facilties-based and resold local exchange and
interexchange telecommunications service to and from all points in the State ofIdaho.
Applicant's initial service offering wil consist of transit and access services for
competitive carriers. Initially, Applicant intends to provide facilties-based and resold
non-switched dedicated and private line services that wil provide CLECs, ISPs, paging
companies, cellular companies, and cable companies with broadband transmission
services. The Company wil not initially be marketing to residential or small
businesses; but primarily other carriers.
Applicant has no plans to provide dial tone services to end user customers at this time.
If future market conditions warrant, however, Applicant may expand its service
offerings to include end user dial tone services. If Applicant does offer end user dial
tone service in the future it wil comply with all applicable state and federal regulations.
II Form of Business
1. Name, Address and Form of Business
a. Applicant is not a sole proprietorship.
b. Applicant is not a partnership.
c. Applicant is a limited liabilty company;
1. a short statement of the character of public service in which it may
engage,
Applicant's initial service offering wil consist of transit and
access services for competitive carriers. Applicant initially
intends to provide facilties-based and resold non-switched
dedicated and private line services for the provision of
broadband transmission services. The Company wil market
primarily to business customers including CLECs, ISPs, paging
companies, cellular companies, and cable companies.
2. the name of the state in which it is organized,
Applicant is organized under the laws of the State of Delaware.
3. its principal business address and
Neutral Tandem-Idaho, LLC
One South Wacker Drive, Suite 200
Chicago, IL 60606
its principal business address within Idaho,
Applicant wil not have a principal business address in Idaho.
4. a certified copy of its aricles of incorporation,
A copy of Applicant's Articles of Organization is attached as
Exhibit A.
5. if not incorporated in Idaho, a certificate of good standing issued by
the Secretar of State, and
Attached hereto as Exhibit B.
6. name and address of registered agent for service in Idaho.
Corporation Service Company
1401 Shoreline Drive, Suite 2
Boise, ID 83702
2. If a corporation, the names and addresses of the ten common stockholders of
applicant owning the greatest number of shares of common stock and the number of
such shares owned by each, as follows:
Applicant is a limited liabilty company, solely owned by Neutral Tandem, Inc.
3. Names and addresses of the officers and directors of applicant.
The sole manager and member of the Applicant:
Neutral Tandem Inc. (100% Owner)
One South Wacker Drive, Suite 200
Chicago, IL 60606
Neutral Tandem-Idaho, LLC does not have any separately designated offcers.
The offcers of Neutral Tandem, Inc. are:
Rian J. Wren
Richard L. Monto
Rob Junkroski
Surendra Saboo
President and Chief Executive Offcer
General Counsel and Secretary
Chief Financial Offcer
Chief Operations Offcer and Executive V.P.
All officers may be reached at Applicant's principle place of business.
4. Name and addresses of any corporation, association, or similar organization holding a
5% or greater ownership or a management interest in the applicant. As to the
ownership, the amount and character of the interest must be indicated. A copy of any
management agreement must be attched.
Applicant is a wholly owned subsidiary of Neutral Tandem, Inc.
5. Names and addresses of subsidiares owned or controlled by applicant.
Applicant does not own or control any subsidiaries.
4. Correspondence pertaining to this Application should be directed to Applicant's
counsel:
Patrick D. Crocker
Early, Lennon, Crocker & Bartosiewicz, P.L.C.
900 Comerica Building
Kalamazoo, MI 49007
Phone: [phone]
Fax: [phone]
E-mail: pcrockerØ1earlylennon.com
III Telecommunications Service
1. The date on which applicant proposes to begin construction or anticipates it will
begin to provide service.
Applicant anticipates it wil begin to provide service shortly after obtaining
authorization. It anticipates that it wil enter into the appropriate
interconnection and service arrangements with Qwest Corporation ("Qwest")
or other certificated facilties-based carriers to offer services.
2. A written description of customer classes and customer service ( s) that the applicant
proposes to offer to the public.
Applicant's initial service offering wil consist of transit and access services for
competitive carriers. Initially, the Company intends to provide facilties-based
and resold non-switched dedicated and private line services for the provision of
broadband transmission services. The Company intends to initially market to
CLECs, ISPs, paging companies, cellular companies, and cable companies.
The Company wil not be marketing to residential or small businesses; but
primarily other carriers.
iv Service Territory
1. A description suffcient for determining whether service is to be offered in a
particular location; and the names of all incumbent local exchange corporations with
whom the proposed utilty is likely to compete.
Applicant intends to provide service throughout the State of Idaho. Initially
Applicant intends to provide service in the Qwest service areas and does not
plan to provide service in areas of any small or rural local exchange carriers.
However, Applicant seeks statewide authority so that it may expand into other
service areas as market conditions warrant and as additional service areas
become open to competition.
2. Written description ofthe intended maner of service, for example, resold services or
facilities based. A general description of the propert owned or controlled by
applicant.
Applicant wil provide resold and facilties-based local exchange and
interexchange services. Initially, the Company intends to provide facilties-
based and resold non-switched dedicated and private line services for the
provision of broadband transmission services. Applicant does not currently
own propert and has not yet completed plans for construction of voice or data
transport facilties in Idaho. While Applicant plans to provide services
primarily over their own facilties, where it lacks facilties and where customer
demand warrants, it may resell the high capacity special access services of
other facilties-based carriers, such as DS-1, DS-3, and multiplexing services.
3. A statement describing with whom the applicant is likely to compete.
Applicant wil compete with Qwest for the provision of service.
4. A description of the propert owned by the applicant clarfies the applicant's
proposed services and operation.
Applicant does not currently own facilties or propert in Idaho. Applicant
intends to deploy its own switching platform facilties in collocated sites
throughout Idaho and lease fiber optic facilties.
V. Financial Information
As a newly-created entity, initially Applicant wil rely on the financial support of its
parent company, Neutral Tandem, Inc., which has the necessary funds to provide local
service. The success of Applicant's parent company, Neutral Tandem, Inc. in
developing innovative products and services and expanding its geographic reach has
translated into impressive growth in recent years and as such Applicant wil be relying
on it's parent company for full financing. Neutral Tandem, Inc. is well-qualified
financially to operate and expand its business through its subsidiary. The abilty to
honor this commitment is ilustrated by the financial statements taken from Neutral
Tandem, Inc.'s Form 10-K, as fied with the Securities and Exchange Commission is
attached hereto as Exhibit C.
1. Latest annual report, if any.
VI "Illustrative" Tariff Filngs
Proposed initial tariff and price sheets setting forth rates, rules, terms, and regulations
applicable to the contemplated service. .
Attached hereto as Exhibit D, Applicant submits an ilustrative tariff containing rates,
rules, terms and regulations.
VII Customer contacts
1. Contact information for the applicant.
a. The name, address, and telephone number and electronic mailng addresses
(if available) of the person(s) responsible for consumer inquiries and
complaints from the public.
Jan Hewitt
Neutral Tandem-Idaho, LLC
One South Wacker Drive, Suite 200
Chicago, IL 60606
[phone]
bilingØ1neutraltandem.com
b A toll-free number for customer inquiries and complaints.
1-888-682-6336
c The name, number and electronic mailng addresses (if available) of the
person(s) designated as a contact for the Commission Staff for resolving
complaints, inquiries and matters concerning rates and price lists or tariffs.
Richard L. Monto
Neutral Tandem-Idaho, LLC
One South Wacker Drive, Suite 200
Chicago, IL 60606
[phone]
rmontoØ1neutraltandem.com
VIII Interconnection Agreements
1. Statements of whether the applicant has initiated interconnection negotiations. If yes,
then when and with whom.
Applicant has not yet initiated interconnection negotiations but intends to do so
upon being granted authority by the Commission.
IX Compliance with Commission Rules
1. A wrtten statement that the applicant has reviewed all of the Commission rules and
agrees to comply with them, or request for waiver of those rules believed to be
inapplicable.
Applicant has reviewed all of the Commission rules and agrees to comply with
them.
X Escrow Account for Advance Deposits
1. If a company requires advance deposits by its customers, the company must submit a
signed copy of an escrow account with a bonded escrow agent or a security bond.
The escrow or bond shall be sufficient to meet customer deposit refuds in case of
company default.
Applicant wil not require deposits or prepayments.
WHEREFORE, Neutral Tandem-Idaho, LLC requests that the Idaho Public Utilties
Commission approve the request authority to provide facilities-based and resold local exchange and
interexchange telecommunications services in Idaho.
Patrick D. Croc er
Early, Lennon, cker & Barosiewicz, P.L.C.
900 Comerica Building
Kalamazoo, MI 49007
269-381-8844
269-381-8822 (fax)
VERIFICATION
Richard L. Monto, General Counsel and Secretar of Neutral Tandem-Idaho, LLC, first
being duly sworn on oath, deposes and says that he has read the foregoing Application and
verifies that the statements made therein are tre and correct to the best of his knowledge,
information and belief.
Neutral Tandem-Idaho, LLC
By:_~JJ L. fV
Richard L. Monto
General Counsel and s:cret::
The foregoinginent wa acknowledged before me Ibs 12 day f~,
2~y Richard L. Monto.
a:IClA SEERIC CA
NOMY PU -STATE OF UI
MY COISSION EX,..
EXHIBIT A
Articles of Organization
Ðefaware PAGE 1
íf Yirst State
I, HAIET SMITH WINDSOR, SECRETAR'Y OF STATE OF THE STATE OF
DELAWAR, DO HEREBY CERTIFY THE ATTACHED IS A TRUE AND CORRCT
COpy OF THE CERTIFICATE OF FORMTION OF "NEUTRA TANDEM-IDAO,
LLC", FILED IN THIS OFFICE ON THE TWNTY-SEVETH DAY OF
DECEMBER, A.D. 2007, AT 5:32 O'CLOCK P.M.
4480959 8100
071368012
~~~9f~
You may verify this cert.ificat.e onlineat. corp. delaware. gov/aut:ver. shon1
Harriet Smith Windsor, Secretary of State
AUTHENTICATXON: 6268708
DATE: 12-27-07
State of DelawarSeta of StateDíVìsion of Coation
Delivere 05:32 PM 12/27/2007
FI 05:32 PM 12/21/2007SR 011368012 - 4480959 FI
STATE a/DELAWARE
LIMTED LIILITY COMPAN
CERTIFCATE o/FORMTION
. First: The nam of th limite liabilty company is Neutr TandemIdaho, LLC
. Second: The address afits registered offce in the State of Delaware is 2111Centeile Road Suite 400 in the City of Wilmington, DE 19808 . The
name of its Registered agent at such addre is
Corration Service Company
. Third: (Use this pargrph only ifthe company is to have a specific effective date of
dissolution: "The làtest date on which the limited liabilty company is to dissolve is.n)
· Fourth: (Insert any other mattrs the membes determine to include herein.)
In Witnes Whereof, the undersigned have executed this Certificate ofFonnation this
27th day of Decmber. 20 07 .
BY'W Lt41
Aüorized Person(s)
Nane: Hoim Tandi Inc. by Ilcl Moi V'ii Pndcii
Typ or Printed
EXHIBITB
Certificate of Authority to Transact Business
253
APPLICATION FOR
REGISTRATION OF FOREIGN
LIMITED LIABILITY COMPANY
(Instructions on back of applìcation)
1, The name of the limited liabìfty company is:
Neutral Tandem-Idaho, LLC
2. If the name of the limited liabilty company is not permissible or is not available in Idaho,
the name the foreign limited liability company Will use in Idaho is:
MIA
3. The jurisdiction under whose laws the limited liabilty company is organized is: Delaware
and the date of its formation was: December 27, .2007
4. The name and address of the registered agent in Idaho is:
Corporation Service Company, 1401 ShOreline Drive, Suite 2, Boise, Idaho 83702
5. The address of the límitedliabilty company'soffcein the Jurisdiction under whose laws
it is organized is:
2711 Centerville Road, Suite 400, Wilmington, DE 1980B
6. The address of the limited liabilty company's principal offce. if other than the address
in #5 above, is:
i South Wacker Drive, Suite 200, Chicago, IL 60606
7. The address to which correspondence should be addressed is:
i South Wacker Drive, Suite 200, Chicago, IL 60606
Attn: Ronald Gavillet
8. Signature of a manager, if any. or a member
if there are no managers.
(010 L 1()t.vl,.hSignature 1lsrii
f ie 1
~ ~
ll
Secrtary of State use ony
Typed Name Nèutral Tand"ín,Inc. by RichiitdHonto, Vp
Manager ø Mémber 0
IDA SEC01/09/
CJ: 1888842531 l 188.88:: lØl
1 (l 26.88: 28:
EXHIBIT C
Neutral Tandem, Inc.'s
FinancIals from Form lO-K
Page 1 of 115
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORMIO-K
IR ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the Fiscal Year Ended December 3 i, 2007
or
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
Commission fie number 001 -33778
NEUTRAL TANDEM, INC.
(Exact name of registrant as specified in its charter)
Delaware
(State or other jurisdiction of
incorporation or organization)
31-1786871
(I.R.S. Employer
Identification No.)
One South Wacker
Suite 200Chicago, Ilinois 60606(Address of principal executive offces) (Zip Code)
Registrant's telephone number, including area code [phone]
Securities registered pursuant to Section 12(b) of the Exchange Act:
Title of Each Class Name of Each Exchange on Which RegisteredCommon Stock, $0.001 Par Value Per Share The NASDAQ Stock Market LLC
Securities registered pursuant to Section 12(g) of the Exchange Act: None
Indicate check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes 0
Indicate check mark if the registrant is not required to fie reports pursuant to Section 13 or Section 15(d) of the Act. Yes 0
No lE
NolE
Indicate by check mark whether the registrant: (1) has fied all report required to be fied by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding i 2 months (or for such shorter period that the registrant was required to fie such reports), and
(2) has been subject to such fiing requirements for the past 90 days. Yes lI No 0
Indicate by check mark if disclosure of delinquent fiers pursuant to Item 405 of Regulation S-K is not contained herein, and wil not be
contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part II of this
Form 10-K or any amendment to this Form lO-K. lI
Indicate by check mark whether the registrant is a large accelerated fier, an accelerated filer, a non-accelerated fier, or a smaller
reporting company. See definitions' of "large accelerated fier," "accelerated fier" and "smaller reporting company" in Rule 12b-2 of the
Exchange Act. (Check one):
Large accelerated filer 0 Accelerated fier 0 Non-accelerated fier lI Smaller reporting company 0
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes 0 No lE
The registrant consummated its initial public offerig on November 7, 2007. Accordingly, as of June 29, 2007, the last day of theregistrant's most recently completed second fiscal quarer, the registrant's common stock was not publicly trded. The aggregate maret value
of the registrat's common stock, $0.001 par value per shar, held by non-affliates of the registrt on Februar 15, 2008, was $293,446,000
(based on the closing sales price of the registrt's common stock on that date). Shares of the registrant's common stock held by each offcer,
director and each other person known to the registrant who beneficially owns more than 5% or more of the registrant's outstading commonstock have been excluded in that such persons may be deemed to be affliates. This determination of affiiate status is not necessarly a
conclusive determination for other purposes.
As of February 15, 2008, the registrant had 3 i ,003,962 shares of common stock outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Neutral Tandem, Inc. definitive Proxy Statement for its 2008 Anual Meeting of Stockholders to be fied with the
Commission pursuant to Regulation 14A not later tha 120 days after December 31, 2007 are incorporated by reference in Par II of thisForm 10-K.
file://C:\DOCUME- i \paula\LOCALS-1 \Temp\G907VJ1 S.htm 4/4/2008
Item 1.
Item lA.
Item IB.
Item 2.
Item 3.
Item 4.
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
Item 10.
Item 11.
Item 12.
Item 13
Item 14.
Item 15.
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NEUTRAL TANDEM, INC.
FORM lO-K
TABLE OF CONTENTS
Part I
ßysim~ss
Ris..kf!lÇ.tQrs
1JnresQlyeg-Staffr;mnments.
lr..perties
Legil.ProceegjQ~
SJlJ2miss.ioJlJlfM.-tten;_Jo_!,YQle_ofSeçJlrlty..UolQers.
Part II
MilketJor_Kegjstrant' s CommmLE_q.lllly,ReliltegStQçkbülc!eLM3ttenumc!1s.s.uer lyrç_h:isesof.EÆJÜY .Seçllrllk~
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Qll..a:HiRlJiYe~lJgDlllitaJiyel)isçla~llresJlPQ1JtMarketRísk
EimillçjaLS!atero..!lt§"1m4..SnpplemerrtarYl)jlta
CbllQgesj!!Jing.12isagreemeiitswidu\çç-Oylllants.Qn.Aççmmtini-mlg.finançílllJ2ís.çlo~Llre
r;Q!tlQIs andPrQÇedl!res
QtherliitNmati!m
Part II
Direçtors,. ExeClltiye . Oftcersalll Corporate Goyernal1ce
EKeçatíye__r;Q.mpell~aliün
Seç\lrilyQwnerSliW.QLCertain...ßendIçjalOwnerSariC:.Mariagemem.. ardRe)ate(.tSlQÇkh9)der.Matters
çertaÍ!Ü~.yJ'!iQllshil.l!ng.Relateg.Irims.açiíQns,..mg.. Qireçt.9Llrii;epenQençe
lrím;.ipaJÂççQlmting..Eees_..arid...Se.D~ÇeS
Part IV
E~hibiis angFiriai:ciaLStatementSç.hedules
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4/4/2008
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ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
B,en.9.:t.Q.Ll.m,lepen.iePJ..egi.sterea.PubliçAççQllJltmg.Eir
CPJisQli4ate4.Balapçe..Sheets
Çopsoliilied.SiçiteimnaQ.lQperatLQns
çQ.lS.Qljllated..S.talementit.QfStQ.çkholders' J:q\lllJIefi.
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
Page
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61
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63
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. -0- - - - - - - -
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Report of Independent Registered Public Accounting Firm
To the Board of Dirctors and Shareholders of
Neutrl Tandem, Inc.
Chicago, Ilinois
We have audited the accompanying consolidated balance sheets of Neutral Tandem, Inc. and subsidianes (the "Company") as of December 31,
2007 and 2006, and the related consolidated statements of income, shareholders' equity (deficit), and cash flows for each of the thee years in
the period ended December 3 i, 2007. Our audits also included the financial statement schedule listed in the Index at Item 15. These financial
statements and financial statement schedule are the responsibilty of the Company's management. Our responsibility is to express an opinion
on the financial statements and financial statement schedule based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those
standards require that we plan and perform the audit to obtain reasonable asurance about whether the financial statements are free of material
misstatement. The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial
reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are
appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of
the Company's internal control over
financial reporting. Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the
amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management,
as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of
Neutral Tandem, Inc. and
subsidiaries as of December 31, 2007 and 2006, and the results of their operations and their cash flows for each of the three years in the period
ended December 31, 2007, in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion,
such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly,
in all material respects, the information set forth therein.
lsi DELOITTE & TOUCHE UP
Chicago, Ilinois
March 4, 2008
60
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NEUTRAL TANDEM, INC. AND SUBSIDIARES
CONSOLIDATED BALANCE SHEETS
(In thonsands except share and per share amounts)
December 31,December 31,
2007 2006
ASSETS
Current assets:
Cash and cash equivalents $112,020 $20,084
Accounts receivable 12,104 7,876
Deferred tax asset-current 2,242 2,699
Other current assets 1,016 866
Total current assets 127,382 31,525
Property and equipment-net 37,410 29,090
Restrcted cash 419 397
Other assets 805 979
Total assets $166,016 $61,991
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $575 $1,919
Accrued liabilities:
Circuit cost 5,694 2,735
Rent 1,163 948
Payroll and related items 1,692 891
Other 2,768 1,515
Current installments of long-tenn debt 4,384 5,317
Total current lìabilities 16,276 13,325
Other liabilities 527 2,420
Deferred tax liability-noncurrent 2,095 2,026
Long-tenn debt--xcluding current installments 3,196 7,585
Total liabilities 22,094 25,356
Commitments and Contingencies
Preferred convertible stock-Series A, par value of $0.001; 9,200,000 authorized shares; 9,000,000
shares issued and outstanding at December 31, 2006 liquidation preference of $9.0 milion at
December 31, 2006 9,000
Preferred convertible stock-Series B-1, par value of$.OOl; 5,830,228 authorized shares; 5,737,416
shares issued and outstanding at December 31, 2006 liquidation preference of $8.5 milion at
December 31, 2006 8,500
Preferred convertible stock-Series B-2, par value of $.001; 1,374,752 authorized shares; 1,352,867
shares issued and outstanding at December 31, 2006 liquidation preference of $8.5 milion at
December 31, 2006 8,500
Preferred convertible stock-Series C, par value of $.00 1; 2,009,947 authorized shares; 1,909,947
shares issued and outstanding at December 31, 2006 liquidation preference of $ 1 2.0 million at
December 31, 2006 12,000
Shareholders' equity (deficit):
Preferred stock-par value of$.OOI; 50,000,000 authorized shares; no shares issued and
outstanding at December 31, 2007
Common stock-par value of$.OOI; 150,000,000 authorized shares; 30,832,939 shares and
5,319,434 shares issued and outstanding at December 3 1,2007 and December 31,2006,
repectively 32 6
Warrants 6,920
Additional paid-in capital 132,889 806
Accumulated earings (deficit)4,081 (2,177)
Total shareholders' equity (deficit)143,922 (1,365)
Total liabilties and shareholders' equity (deficit)$166,016 $61,991
See notes to consolidated financial statements.
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NEUTRA TANDEM, INC. AND SUBSIDIARES
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands, except per share data)
Revenue
Operating Expense:
Network and facilities expense (excluding depreciation and amortization)
Operations
Sales and marketing
General and administrative
Depreciation and amortization
Impairment of fixed assets
Loss (gain) on disposal of fixed assets
Total operating expense
Income from operations
Other (income) expense
Interest expense, including debt discount of$139, $124 and $68, respectively
Interest income
Change in fair value of warrants
Other income
Total other expense
Income (loss) before income taxes
Provision (benefit) for income taxes
Net income (loss)
Net income (loss) per share:
Basic
Diluted
Weighted average number of shares outstanding:
Basic
Diluted
See notes to consolidated financial statements.
62
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Year Ended Deember 31,
207 200 2005
$85,555 $52,866 $27,962
30,163 21,305 1l,349
15,536 11,613 8,189
1,770 1,553 1,360
9,426 4,166 3,053
11,076 7,160 3,141
1,234
(144)333
67,827 47,364 27,092
17,728 5,502 870
1,668 1,289 843
(1,321)(778)(170)
4,919 832 674
(ll)
5,266 1,343 1,336
12,462 4,159 (466)
6,204 (499)
$ 6,258 $ 4,658 $(466)
$0.68 $0.88 $(0.08)
$0.24 $0.20 $(0.08)
9,248 5,293 5,628
26,378 23,481 5,628
4/4/2008
A -0- - - ~. A'_
WRítr~~.m
NEUTRA TANDEM, INC. AND SUBSIDIARES
CONSOLIDATED STATEMENTS OF SHARHOLDERS' EQUITY (DEFICIT)
(Dollars in thousands)
Sbares Outstanding
Series X Total
Preferred Common Additional Accum Sbareholders'
Common Paid-In Deficit!
Sbares Sbares Warrants Sbares Warrants Capital Earnings Equity
Balance at December 31, 2004 100 5,490,00 $5 $$116 $(6,242)$(6,121)
Net loss and comprehensive loss (466)(466)
Series X conversion to common shares (100)417,084
Purchase of common shares for retirement (386,800)
Exercise of stock options 15,000 2 2
Stock option expense 29 29
Accretion of preferred stock ---)(53)
Balance at December 31, 2005 5,535,284 5 147 (6,761)(6,609)
Net income and comprehensive income 4,658 4,658
Purchase of common shares for retirement (299,100)(1)(1)
Exercise of stock options 83,250 261 262
Stock option expense 399 399
Accretion of preferred stock --)(74)
Balance at December 31,2006 5,319,434 6 806 (2,177)(1,365)
Net income and comprehensive income 6,258 6,258
Proceeds from issuance of common shares, net of
costs 7,248,700 7 93,104 93,11 1
Preferred conversion to common shares 18,000,230 18 37,982 38,000
Rec!assiíïcation of warrants 402,236 6,920 6,920
Exercise of stock options 264,575 91 92
Stock option expense 906 906-
Balance at December 31,2007 30,832,939 402,236 $32 $ 6,920 $132,889 $ 4,081 $143,922=
See notes to consolidated financial statements.
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H
NEUTRAL TANDEM, INC. AND SUBSIDIARES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(DoUars in thousands)
Cash Flows From Operating Activities:
Net income
Adjustments to reconcile net cash flows from operating activities:
Depreciation and amortization
Deferred tax
Impairment of fixed assets
Loss (gain) on disposal of fixed assets
Non-cash share-based compensation
Amortization of debt discount
Changes in fair value of warrants
Changes in assets and liabilities:
Accounts receivable-net
Other currnt assets
Other noncurrent assets
Accounts payable
Accrued liabilities
Noncurrent liabilities
Net cash flows from operating activities
Cash Flows From Investing Activities:
Purchase of equipment
Proceeds from sale of equipment
Increase in restncted cash
Purchase of short-term investments
Sale of short-term investments
Net cash flows from investing activities
Cash Flows From Financing Activities:
Proceeds from the issuance of common shares associated with stock option exercise
Proceeds from issuance of common shares, net of issuance cost
Purchase of common shares for retirement
Proceeds from the issuance of convertible preferred shares, net of issuance cost
Proceeds from the issuance of long-term debt
Principal payments on long-term debt
Net cash flows from financing activities
Net Increase In Cash And Cash Equivalents
Cash And Cash Equivalents-Beginning
Cash And Cash Equivalents-End
Supplemental Disclosure Of Cash Flow Information:
Cash paid for interest
Cash paid for taxes
Cash refunded for taxes
Supplemental Disclosure Of Noncash Flow Items:
Investing Activity-Accrued purchases of equipment
Financing Activity-Warrants issued
See notes to consolidated financial statements.
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.lage () I 01 II ~
Year Ended Deember 31,2007 200 2005
$6,258
1l,076
526
(144)
906
139
4,919
(4,228)
(150)
174
(671)
5,228
108
24,141
(20,149)
224
(22)
(19,947)
1,924
91,279
(5,461)
87,742
91,936
20,084
$1l2,020
$ 1,258
$ 3,385
$ 542
$ 463
$
$4,658
7,160
(673)
1,234
333
399
124
832
(3,255)
(662)
(230)
433
2,225
389
12,967
(17,098)
(71)
(48,000)
52,450
(12,719)
262
(I)
11,926
10,000
(3,642)
18,545
18,793
1,291
$ 20,084
$776
$781
$
$1,136
$289
$ (466)
3,141
29
68
674
(3,568)
58
(193)
262
1,856
286
2,147
(13,977)
(13)
(8,000)
11,750
(10,240)
2
8,448
2,750
(2,015)
9,185
1,092
199
$1,291
$434
$
$
$
$24
4/4/2008
page (LLS 01 1 1)
im~~1 ._d!~"_fW.t!;*;:m ""
NEUTRAL TANDEM, INC. AND SUBSIDIARES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF THE BUSINESS
Organization -Neutral Tandem, Inc. ("the Company") provides tandem interconnection services principally to competitive carers,
including wireless, wire line, cable and broadband telephony companies. Competitive carers use tandem switches to interconnect and
exchange traffc between their networks without the need to establish direct switch-to-switch connections. Prior to the introduction of the
Company's service, the primar method for competitive carrers to exchange traffc was through use of the incumbent local exchange carriers' ,
or ILECs, tandem switches. Under cerain interpretations of the Telecommunications Act of 1996, ILECs are required to provide tandem
switching to competitive carrers. For tandem trnsit services, ILECs generally set per minute rates and other charges according to mandated
rate schedules (including varing rates) set by state public utility commissions. The Company's solution enables competitive carers to
exchange traffc between their networks without using an ILEC tandem.
Initial Public Offering -In November 2007, the Company completed its initial public offering ("IPO") of common stock in which it
sold 7,247,489 shars of its common stock, including 997,489 shares sold pursuant to the underwriter's full exercise of their over-allotment
option, at an issue price of$ 14.00 per share. The Company raised a total of $101.5 milion in gross proceeds from its IPQ, or $91.3 milion in
net proceeds after deducting underwting discounts and commissions of $7. I millon and other offering costs of $3. i milion. Upon the closing
of the IPQ, all shares of convertble preferred stock outstanding automatically converted into 18 milion shares of common stock. Upon the
closing of the Company's IPO, warrants to purchase shares of the Company's convertible preferred stock became warrants to purchase shares
of the Company's common stock.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation -The consolidated financial statements include the accounts ofthe Company and its wholly owned
subsidiaries. All intercompany balances and transactions have been eliminated in consolidation.
Use of Estimates -The Company's consolidated financial statements are prepared in accordance with accounting principles generally
accepted in the United States of America. These accounting principles require management to make certain estimates and assumptions that can
affect the reported amounts of assets and liabilities and disclosure of contingent liabilities at the date of the consolidated financial statements, as
well as the reported amounts of revenues and expenses during the periods presented. Significant estimates and assumptions made by
management include the determination of fair value of stock-based awards and warants issued prior to its IPQ, the allowance for doubtful
accounts and certain accrued expenses. The Company believes that the estimates and assumptions upon which it relies are reasonable based
upon information available to it at the time that these estimates and assumptions are made. To the extent there are material differences between
these estimates and actual results, the Company's consolidated financial statements wil be affected.
Cash and Cash Equivalents -The Company considers all highly liquid investments with an original maturity of 90 days or less to be
cash equivalents.
Property and Equipment -Propert and equipment are recorded at historical cost. These costs are depreciated over the estimated useful
lives of the individual assets using the straight-line method. Any gains and losses from the disposition of property and equipment are included
in operations as incurred. The estimated useful life for switch equipment and tools and test equipment is five years. The estimated useful life
for computer equipment, computer software and furniture and fixtures is thee years. Leasehold improvements are amortized on a straight-line
basis over an estimated useful life of five years or the life of the lease, whichever is less.
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Softare Development Costs -The Company capitalizes costs associated with softare developed or obtained for internal use when
both the preliminar project stage is completed and management has authorized project funding. The caring value of software and
development costs is regularly reviewed by management for potential impaimient. The Company amortizes capitalized softwar costs over the
estimated useful life of thee years.
Restricted Cash -The Company has letters of credit securing certain building leass. In accordace with the tenns of the letters of credit,
the Company pledged cash for a portion of the outstanding amount. The Company had restrcted cash of $0.4 milion at both December 31,
2007 and 2006. As the Company expands into additional markets, the amount of restricted cash pledged to letters of credit may increase.
Long-lived Assets -The carring value of long-lived assets, primarily propert and equipment, is evaluated whenever events or changes
in circumstances indicate that a potential impaimient ha occurred. A potential impaimient has occured if projected undiscounted cash flows
are less than the caring value of the assets. The estimated cash flows include management's assumptions of cash inflows and outflows
directly resulting from the use of that asset in operations. The impaimient test is a two-step process. If the carng value of the asset exceeds
the expected future cash flows from the asset, impaimient is indicated. The impaimient loss recognized is the excess of the caring value of
the asset over its fair value. Typically, the fair value of the asset is determined by discounting the estimated futue cash flows associated with
the asset.
In October 2006, the Company decided to invest in new switch equipment in its Atlanta and Miami locations. The new equipment
provides greater functionality that will improve network effciency and perfomiance. The equipment being replaced had no further use in the
network. The Company completed a test for impaimient consistent with the two-step process described above. For Atlanta, the expected future
cash flows from October 2006 through Januar 2007 were discounted at i 2% to detemiine the fair value of the equipment to be disposed of.
For Miami, the expected future cash flows from October 2006 through March 2007 were discounted at i 2% to detemiine the fair value of the
equipment to be disposed of. As a result, the Company recorded a charge of $ 1.2 milion related to the asset impaimient. In Atlanta, the new
equipment was installed and became operational February 2007. In Miami, the new equipment was installed and became operational at the end
of March 2007. The Company assumed no salvage value for disposal of the old Atlanta and Miami switch equipment. The entire impairment
amount was recorded in the fourth quarter of 2006.
In July 2007, the Company decided to invest in new switch equipment, which wil replace existing equipment in Februar 2008, in its
New York location. The new equipment provides greater functionality that wil improve network effciency and perfonnance. The equipment
being replaced has no further use in the network. The Company completed a test for impairment consistent with the two-step process described
above. The expected future cash flows from July 2007 though February 2008 were discounted at i 2% to detemiine the fair value of the
equipment to be disposed of. As a result, there is no impaimient of the existing switch equipment in New York, however, the Company began
accelerating the depreciation on the switch equipment to be disposed of in February 2008 when the new switch equipment is expected to be
installed and operationaL.
The Company had no impairnient of long-lived assets at December 3 1,2007.
Asset Retirement Obligation -The Company leass all of its switch locations. The Company's leases with its landlords require it to
return the switch locations back to their original condition or that major work, such as heating and ventilation upgrades, stay with the facilty.
Therefore, the Company has a basic requirement to remove its switch equipment, telephone connections and battery power supply. This cost is
estimated to be immateriaL. The Company's operations and engineering management team believes the cost to remove all items identified
above would be an immaterial amount.
Freestanding Convertible Preferred Stock Warrants - Upon the closing of the Company's IPO in November 2007, warts to
purchase shares of the Company's convertible preferred stock became warrnts to
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purchase shares of the Company's common stock and, as a result, are no longer subject to Financial Accounting Standards Board Staff Position
(FSP) No. 150-5, " Issuers Accounting under Statement No. 150 for Freestanding Warrants and Other Similar Instruments on Shares that are
Redeemable" (FSP i 50-5). The then-current aggregate fair value of thes warants of $6.9 millon was reclassified from currnt liabilties to
warants, a component of stockholders' equity (deficit), and the Company has ceased to record any fuer periodic fair value adjustments.
In 2007 (through the completion of its IPO) and 2006, the Company recorded $4.9 milion and $0.8 milion, respectively, of expese
reflected in change in fair value of warrants, a component of other ( income) expense, net to reflect the increae in fair value durig the period.
On February 21,2008 the note holders elected to exercise all of the outstanding warnts. Puruat to the terms of the warants th note
holders elected to exercise the warrnts on a net basis based upon the average closing price of our common stock during the the days prior to
such exercise. Based upon the closing prices of our common stock on February 20, 2008, February 19, 2008 and February 15, 2008 we issued a
total of 356,92 i common shares on February 25, 2008 in full satisfaction of all outstanding warrants.
Revenue Recognition -The Company generates revenue from sales of its tandem interconnection services. The Company maintains
executed servce agreements with each of its customers in which specific fees and rates are determined. Revenue is recorded each month on an
accrual basis based upon documented minutes of traffc switched for which service is provided and when collection is probable. The Company
provides service primarily to large, well-established competitive carrers, including wireless, wi reline and cable and broadband telephony.
Accounting for Legal Costs Expected to Be Incurred In Connection with a Loss Contingency - The Company includes an estimate of
future legal fees to be incurred in connection with the resolution of vendor disputes when a loss contingency is initially determined. The
estimate is consistent with Statement of Financial Accounting Standards No.5, Accounting for Contingencies.
Network and Facilties Expense -The Company's network and facilities expenses include transport and signaling network costs,
facility rents and utilities, together with other costs that directly support the switch locations. The Company does not defer any costs associated
with the start-up of new switch locations and does not capitalize any costs.
Network transport costs typically occur on a repeating monthly basis, which the Company refers to as recurrng costs, or on a one-time
basis, which the Company refers to as non-recurrng costs. Recurring costs primarily include monthly usage charges from telecommunication
carriers, related to the circuits utilized by the Company to interconnect our customers. As the Company's traffc increases, it must provide
additional circuits. Non-recurring costs primarly include the initial installation of such circuits. Facility rents include the leases on our switch
facilities, which expire through April 20 i 8. Additionally, the Company pays the cost of all the utilties for all of its switch locations.
The largest component of other costs relates to charges paid to utilize ILEC services. The Company incurs some monthly chares from
the ILECs as it diversifies its network and provides alternative routes to complete the customers' traffic. In some cases, the Company may not
have suffcient capacity of network transport lines installed in its network to handle the volume of traffc destined for a paricular customer. In
this case, it will incur these charges, generally temporarly, in order to maintain a high quality of service.
Operations Expenses -The Company's operations expenses include payroll and benefits for both switch loc'ation personnel as well as
individuals located at the corporate office who are directly responsible for maintaining and expanding the switch network. Other primary
components of operations expenses include switch repair and maintenance, property taxes, property insurance and supplies.
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Earnings (Loss) Per Share -Basic earings pe share is computed based on the weighted average number of common shares
outstanding. Diluted earnings per share is computed based on the weighted average number of common shares outstading adjusted by the
number of additional shares that would have been outstanding had the potentially dilutive common shares been issued. Potentially dilutive
shares of common stock include stock options, convertble warts, Series A Convertible Preferred Stock, Series B-1 Convertible Preferred
Stock, Series B-2 Convertible Preferred Stock and Series C Convertible Preferred Stock. During periods in which a net loss is incurred, diluted
earnings per share amounts are the same as the basic per share amounts because the effect of all options, convertible warants, Seres A
Convertible Preferred Stock, Series B-1 Convertible Preferred Stock, Series B-2 Convertible Preferred Stock and Series C Converible
Preferred Stock is anti-dilutive. The following table presents a reconcilation of the numerators and denominators of basic and diluted earnings
per common shae:
Years Ended Deember 31,2007 2006 2005(In thousands, except per share amounts)
Numerator:
Net income (loss) applicable to common stockholders
Denominator:
Weighted average common shares outstanding
Effect of dilutive securities:
Stock options
Warrants
Series A Preferrd Stock
Series B-1 Preferred Stock
Series B-2 Preferred Stock
Series C Preferred Stock
Denominator for diluted earnings per share
Net earings (loss) per share:
Basic-as reported
Diluted-as reported
$ 6,258 $ 4,658
9,248 5,293
1,567 355
275
7,644 9,000
4,873 5,737
1,149 1,353
1,622 1,743
26,378 23,481
$0.68 $0.88
$0.24 $0.20
For puroses of calculating the 2006 diluted earnings per share, the Company excluded the impact of the convertible warrants on
weighted average shares as the cash settlement method results in an anti- dilutive impact on the calculation.
$ (466)
5,628
5,628
$(0.08)
$ (0.08)
The Company incurred a net loss for the year ended December 31, 2005; therefore, conversion of preferred stock, warrants and potential
common stock issuances attributable to stock options were excluded from the calculation of diluted earnings per share amount because the
effect would have been anti-dilutive. The number of shares used to calculate diluted per share amounts otherwise would have been increased by
15,775,000.
Options to purchase 93,000 and 1,335,000 shares of common stock at a weighted-average price of $10.40 and $1.22 per share were
outstanding during the year ended December 31, 2007 and 2006, respectively, but were not included in the computation of diluted earnings per
share because the effect would have been anti-dilutive.
Comprehensive Income -Comprehensive income includes all changes in equity during a period from non-owner sources.
Comprehensive income was the same as net income (loss) for the year ended December 31,2007, 2006 and 2005.
Accounting for Stock-Based Compensation -As of January 1, 2005, the Company adopted SF AS No. 123(R) using the modified
retrospective method. The modified retrospective method requires the prior period financial statements to be restated to recognize
compensation cost in the amounts previously reported in the pro fonna footnotes.
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The fair value of stock options is determined using the Black-Scholes valuation model, which is consistent with the Company's valuation
techniques previously utilized for options in footnote disclosures requird under SF AS No. 123, Accounting for Stock Based Compensation, as
amended by SFAS No. 148, Accounting for Stock-Based Compensation-Trasition and Disclosure. This model taes into account the
exercise price of the stock option, the fair value of the common stock underlying the stock option as measured on the date of grat and an
estimation of the volatility of the common stock underlying the stock option. Such value is recognized as expense over the service period, net
of estimated forfeitures, using the accelerated method under SF AS 123(R). The estimation of stock awards that wil ultimately vest requires
judgment, and to the extent actual reults or updated estimates differ from the Company's curent estimates, such amounts wil be recorded as a
cumulative adjustment in the period estimates are revised. The Company considers many factors when estimating expected forfeitures,
including tyes of awards, employee class, and historical experience. Actual results, and future changes in estimates, may differ substantially
from the Company's current estimates.
The amount of share-based expense recorded in the year ended December 31,2007,2006 and 2005, is $906,000, $399,000, and $29,000,
respectively.
Income Taxes -The Company accounts for income taxes in accordance with SF AS No. 109 Accounting for Income Taxes. Deferred
income ta assets and liabilities are recognized for future income tax consequences attributable to temporary differences between the financial
statement carring amounts of existing assets and liabilities and their respective income tax bases and for net operating loss and tax credit
carforwards. Deferrd income tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years
in which those temporary differences are expected to be recovered or settled. The effect on deferred income tax assets and liabilities of a
change in income ta rates is recorded in earings in the period of enactment. A valuation allowance is provided for deferred income tax assets
whenever it is more likely than not that future tax benefits wil not be realized. Deferred income tax assets are reviewed on a quarterly basis to
determine if a valuation allowance is necessar based on current and historical performance, along with other relevant factors.
Income tax provision includes U.S. federal, state, and local income taxes and is based on pre-tax income or loss. The interm period
provision or benefit for income taxes is based upon the Company's estimate of its annual effective income tax rate. In determining the
estimated annual effective income ta rate, the Company analyses varous factors, including projections of the Company's annual earings and
taxing jursdictions in which earings wil be generated, the impact of state and local income taxes and the ability of the Company to use tax
credits and net operating loss carforwards.
Concentrations -For the year ended 2007, 2006 and 2005, the aggregate revenues of four customers accounted for 54%, 46% and 55%
of total revenues, respectively. At December 31, 2007 and 2006, the aggregate accounts receivable of four customers accounted for 55% and
43% of the Company's total trade accounts receivable, respectively.
In 2007, the Company had two customers in excess often percent of sales, which were 26% and 14% of the Company's total revenue,
respectively. At December 31,2007, the Company had three customers who accounted for 22%, 14% and 11% of the Company's accounts
receivable balance, respectively.
In 2006, the Company had two customers in excess often percent of sales, which were 23% and 14% of the Company's total revenue,
respectively. At December 31,2006, the Company had two customers who accounted for 21% and 13% of the Company's accounts receivable
balance, respectively.
In 2005, the Company had three customers in excess often percent of sales, which were 18%, 15% and 13% of the Company's total
revenue, respectively. At December 31, 2005, the Company had thee customers who accounted for 13%, 11% and 10% of the Company's
accounts receivable balance, respectively.
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For the year ended December 3 1, 2007, the company had $ 1 12 milion in cash and cash equivalents. Of this amount, approximately
$105.9 milion was invested in one money market fund. Investment policies have been implemented that limit investments to highly liquid
investments with an original maturity of90 days or less.
Recent Accounting Pronouncements -In June 2006, the Financial Accounting Standards Board (F ASB) issued Interpretation (FIN)
No. 48, Accountingfor Uncertainty in Income Taxes-an interpretation ofF ASB Statement No . 109 (FIN 48), which clarfies the accounting
for uncertainty in income taxes recognized in an enterprise's financial statements in accordance with Statement of Fincial Accounting
Standards (SFAS) No. 109. FIN 48 is effective for fiscal years beginning after December 15,2006, and was adopted by the Company on
January 1,2007. FIN 48 requires that a position taken or expected to be taen in a tax return be recognized in the financial statements when it is
more likely than not (i.e. a likelihood of more than fifty percent) that the position would be sustained upon examination by tax authorities. A
recognized tax position is then measured at the largest amount of the benefit that is greater than fift percent likely of being realized upon
ultimate settlement. The Company's policy is to recognize interest and penalty expense associated with uncertin tax positions as a component
of income tax expense in the consolidated statement of operations. The adoption of FIN 48 did not have an effect on the Company's
consolidated results of operations or financial condition at adoption or for the year ended and as of December 31, 2007.
In September 2006, the FASB issued SFAS No. 157, Fair Value Measurements. The standard provides guidance for using fair value to
measure assets and liabilities. The standard clarfies the principle that fair value should be based on the assumptions market participants would
use when pricing the asset or liability and establishes a fair value hierarchy that prioritizes the information used to develop those assumptions.
Under the standard, fair value measurements would be separately disclosed by level within the fair value hierarchy. SFAS 157 is effective for
financial statements issued for fiscal years beginning after November 15,2007 and interim periods within those fiscal years. The adoption of
SFAS No. 157 wil not have a material impact upon the Company's consolidated financial statements.
In February 2007, the F ASB issued SF AS No. 159, The Fair Value Option for Financial Assets and Financial Liabilties-including an
amendment of FASB Statement No. 115 . SF AS 159 permits entities to elect to measure many financial instruments and certain other items at
fair value. Unrealized gains and losses on items for which the fair value option has been elected wil be recognized in earnings at each
subsequent reporting date. SFAS 159 is effective for fiscal year beginning after November 15,2007. The Company has determined that it is
not electing to adopt this standard.
In December 2007, the FASB issued SFAS No. 141(R), Business Combinations. SFAS 141R retains the fundamental requirements in
previously issued Statement 141 that the acquisition method of accounting (the purchase method) be used for all business combinations and for
an acquirer to be identified for each business combination. This Statement requires an acquirer to recognize the assets acquired, the liabilties
assumed and any noncontrolling interest in the acquiree at the acquisition date at the fair values as of that date. This replaces the Statement
141 ' s cost allocation process which required the cost of an acquisition to be allocated to the individual assets acquired and liabilties assumed
based upon their estimated fair values. The Company wil adopt this standard for acquisitions consummated after the effective date.
In December 2007, the FASB issued SF AS NO.1 60, Noncontrollng Interests in Consolidated Financial Statements. SF AS 160 amends
Accounting Research Bulletin NO.5 1, Consolidated Financial Statements, to establish accounting and reporting standards for noncontrolling
interest in a subsidiary and for the deconsolidation of a subsidiar. Before this statement was issued, limited guidance existed for reporting
noncontrollng interest. The Company will adopt this standard for acquisitions consummated after the effective date.
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3. PROPERTY AND EQUIPMENT
Property and equipment as of December 31, 2007 and 2006 consists of the following:
December 31,December 31,
Less accumulated depreciation
Propert and equipment-net
2007
$ 46,745
5,385
1,156
1,237
354
310
1,205
56,392
(18,982)
$ 37,410
2006
$ 35,657
2,866
1,040
860
307
245
230
41,205
(12,115)
$ 29,090
(Dollars In thousands)
Switch equipment
Constrction in process
Computer software
Computer equipment
Tools and test equipment
Furniture and fixtures
Leasehold improvements
4. ACCOUNTS RECEIVABLE
Accounts receivable as of December 31, 2007 and 2006 consists of the following:
December 31,December 31,
(Dollars in thousands)2007 2006
Biled receivables $10,252 $6,112
Unbiled receivables 1,839 1,145
Other receivables 13 619
12,104 7,876
Less allowance for doubtful accounts
Accounts receivable-net of allowance for doubtful accounts $12,104 $7,876
The Company invoices customers for services occurnng through the 24th of each month. The Company accrues revenue each month for
services from the 25th through the end of the month resulting in unbiled receivables. The unbiled receivables at the end of each month are
biled as part of the following month's billing cycle.
5. DEBT
In May 2004, the Company entered into an equipment loan and security agreement with an affliate of West em Technology Investment
("WTI") that provided for aggregate borrowings of up to $4.0 millon for the Company's capital purchases though July 31,2004. The
Company borrowed $3.0 milion and $1.0 milion against this facility in May and July of2004, respectively. Borrowings are payable in 36
monthly installments and bear interest at prime plus 3.005% (7.0% and 7.3% at May and July 2004, respectively), plus a final payment equal to
8.14% of the principal amount of such borrowings.
The agreement was amended in December 2004 to allow for an additional $5.5 milion of borrowings of which $2.8 milion was drawn
that month and the balance was drawn in August of 2005. The December 2004 borrowing is payable in 36 monthly installments and bear
interest at prime plus 1.25% (6.5% at the date of issuance) with a final payment equal to 9.3% of the pricipal amount borrowed. The August
2005 borrowing is payable in 36 monthly installments and bears interest at prime plus 1.25% (7.5% at the date of issuance) with a final
payment equal to 9.3% of the principal amount borrowed.
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The agreement was again amended in Januar 2006 to allow for $ 10.0 milion of additional borrowings of which $2.5 millon was dràwn
on May i, 2006, $2.5 milion was drawn on June 30, 2006, $2.5 milion was drawn on September 29, 2006, and another $2.5 milion was
drawn on December 22, 2006. The May 2006 borrowing is payable in 36 monthly installments an bear interest at prime plus 1.25% (9.6% at
the date of issuance) with a final payment equal to 9.6% of the principal amount borrowed. The June 2006 borrowing is payable in 36 monthly
installments and bears interest at prime plus 1.25% (9.25% at the date of issuance) with a final payment equal to 9.6% of the pricipal amount
borrowed. The September 2006 borrowing is payable in 36 monthly installments and be interest at prime plus 1.25% (9.5% at the date of
issuance) with a fial payment equal to 9.6% of the principal amount borrowed. The Decembe 2006 borrowing is payable in 36 monthly
installments and bears interest at prime plus 1.25% (9.5% at the date of issuance) with a final payment equal to 9.6% of the principal amount
borrowed.
In accordace with the terms of the agreement, the Company issued warrants to the note holders. The warants are exercisable any time
up to eight years after their issuance. The terms of the agrment provide for the adjustment of stock purchase price and number of shares
under the warrnt subject to, any stock split, stock dividend, subdivision or combination of shares, reclassification of shares dilution or similar
event, merger, sale or issuance of shares below purchas prices. There have been no new sales of securities, or other events, that would lower
the conversion price oftlie warrants. The warrants are required to be settled with physical shares of the applicable Preferred Convertible Stock.
As a result of the automatic conversion of the Company's Series A, B-1, B-2 and C preferred convertible stock to common stock the warrants
are now exercisable for an equivalent number of the Company's common shares.
With respect to periods ending prior to completion of the IPO, the Company has classified the warrants as a liabilty given the conditional
redemption featue of the underlying preferred stock. The warants were recorded at the fair value at each period reported. No warants had
been exercised at December 31, 2007. On February 21,2008 the note holders elected to exercise all of the outstanding warants. Pursuant to the
terms of the warrnts the note holders elected to exercise the warrants on a net basis based upon the average closing price of our common stock
during the three days prior to such exerCise. Based upon the closing prices of our common stock on February 20, 2008, February 19,2008 and
February 15, 2008 we issued a total of356,921 common shares on February 25, 2008 in full satisfaction of all outstanding warants.
The Company estimated the fair value of these warants using the Black-Scholes option pricing modeL. The Company utilized the full
term of the warants as their expected life. The range of expected life ranges from less than one year to 7.5 years. The risk-free rate assumption
ranges from 3.69% to 5. I 2%. Volatility of the Company's underlying preferred convertible stock is utilized which ranges from 55.5% to
72.1%.
The fair value of these warrants at the time of issuance, as calculated using the Black-Scholes model, was estimated at $495,000 and has
been reflected as a reduction of the carring amount of the note and is being accreted over the term of the note. The charges to interest expense
for the years ended December 31,2007,2006 and 2005 were $139,000, $124,000 and $68,000, respectively.
Under the terms of its debt agreement, the Company must comply with certain negative covenants that limit our ability to declare or pay
dividends, incur additional indebtedness, incur liens, dispose of significant assets, make acquisitions or significantly change the nature of its
business without the permission of the lender. For the periods ended December 31,2007,2006 and 2005, the Company was in compliance with
all the covenants under its debt agreements.
The Company uses cash collateralized letters of creit issued by LaSalle Bank N.A. to secure certain facility leases and other obligations.
At December 31,2007 there was $419,000 of restrcted cash used as collateral for $374,000 in letters of credit outstanding.
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Long-term debt is summanzed as follows:
(Dollars In thousands)
Secured term loan, interest payable at 7.0%. Principal repaid in 36 equal installments commencing
June 1, 2004. A final payment of 8. 1 4% of the borrowed amount was paid in May 2007
Secured term loan, interest payable at 7.3%. Principal repaid in 36 equal installments commencing
October, 1,2004. A frnal payment of 8.14% of the borrwed amount is required in August of 2007
Secured term loan, interest payable at 6.5%. Principal repaid in 36 equal installments commencing
April 1,2005. A final payment of9.3% of the borrowed amount is required in March 2008
Secured term loan, interest payable at 7.5%. Principal repaid in 36 equal installments commencing
December 1, 2005. A final payment of9.3% of the borrowed amount is required in November 2008
Secured term loan, interest payable at 9.0%. Principal repaid in 36 equal installments commencing
August 1,2006. A final payment of9.6% of the borrowed amount is required in July 2009
Secured term loan, interest payable at 9.25%. Principal repaid in 36 equal installments commencing
October 1,2006. A fmal payment of9.6% of the borrowed amount is required in September 2009
Secured term loan, interest payable at 9.5%. Principal repaid in 36 equal installments commencing
January 1,2007. A final payment of 9.6% of the borrowed amount is required in December 2009
Secured term loan, interest payable at 9.5%. Principal repaid in 36 equal installments commencing
April 1,2007. A frnal payment of9.6% of the borrowed amount is required in March 2010
Less-discount on debt associated with the issuance of warants
Total long-term debt
Less-current installments
Long-term debt-excluding current installments
kß
December 31,
2007
$
249
902
1,395
1,528
1,729
1,924
(147)
7,580
(4,384)
$3,196
December 31,
2006
$453
240
1,205
1,816
2,175
2,299
2,500
2,500
(286)
12,902
(5,3 17)
$7,585
Total principal repayments required for each of the next three years under all long-term debt agreements are summarized as follows
(dollars in thousands):
December 31,
2007
2008 $4,479
2009 3,013
2010 235
Total $7,727
6. 401(k) SAVINGS PLAN
The Company sponsors a 401 (k) plan covering substantially all employees. The plan is a defined contribution savings plan in which
employees may contribute up to 15% of their salary, subject to certain limitations. The Company may elect to make discretionary contributions
into the Plan. The Company contrbuted $0. I milion to this plan during the year ended December 31, 2007. The Company did not contribute to
the Plan durig the year ended December 31, 2006 and 2005.
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7. PREFERRD CONVERTIBLE STOCK
At December 3 i, 2007, the Company no longer had any shares of convertible preferred stock issued and outstanding.
In 2003, the Company issued 8,723,000 shares of Series A Preferred Convertible Stock (Series A Preferred) with a par value of$O.OOI
per shar for approximately $8.6 milion. Also in 2003, the Company issued 100 shares of Series X Preferred Convertible Stock (Seres XPreferred) with a par value of $0.00 i per share for less than $0. i milion. The Series X Preferred Convertible Stock was issued to NT Holdings,
LLC as part of the Company's initial capitalization. The Series X Preferred are non-redeemable and ar automatically convertble based on
conversion rate per the stock terms once the Company has raised, in aggregate, more than $ i 0.0 milion of equity financing.
In 2004, an additional 277 ,000 shares of Series A Preferred Convertible Stock were issued for $0.3 milion. Also in 2004, the Company
issued 5,737,416 shares of Series B-1 Preferred Convertible Stock (Series B-1 Preferred) with a par value of $0.00 i per share forapproximately $8.3 millon.
In June 2005, the entire outstanding i 00 shares of Series X Preferred converted to $ 1.0 milion of Common Stock, or 4 17,084 shares, at a
blended rate (Series B- i Preferred and Series B-2 Preferrd) price of$2.3976. Also in 2005, the Company issued i ,352,867 shares of Series B-
2 Preferr Convertible Stock (Series B-2 Preferred) with a par value of$O.OO I per share for approximately $8.4 milion.
In February 2006, the Company issued 1,909,947 shares of Series C Preferred Convertible Stock (Series C Preferred) with a par value of
$0.001 per share for approximately $1 1.9 millon
In 2006, the Company classified the preferred convertible stock as mezzanine equity on the consolidated balance sheet. The Company
recognized changes in the redemption value immediately as they occur and adjusts the caning value of the" security equal to the redemption
value at the end of each reporting period.
On November 7, 2007, upon closing of the Company's IPO, the Series A, B- I, B-2, and C Preferrd Convertible Stock automatically
converted into common stock. On this date, the Series A, B-1, B-2, and C preferred convertible stock converted into 9,000,000 shares,
5,737,000 shares, 1,353,000 shares and 1,910,000 shares, respectively, of the Company's common stock.
Series A, B-1, B-2 and C Preferred Convertible Shares -Series A Preferred Convertible Sharholders, Series B- 1 Preferred Convertible
Shareholders, Series B-2 Preferred Convertible Shareholders and Series C Preferred Convertible Shareholders had the following rights and
privileges:
Voting -Holders of each Series A, B- I, B-2 and C Preferred Stock shall have voting rights on an as if converted basis.
Conversion -The holder of any shares of Series A Preferred, Series B- i Preferred, Series B-2 Preferred and Series C Preferr have the
right at such holder's option, at any time, to convert any of such shares into such number of fully paid and nonassessable shares of CommonStock as is determined (i) in the case of Series A Preferred by dividing $ 1 .00 by the Series A Preferred Conversion Price in effect at the time of
conversion; (ii) in the case of Series B- 1 Preferrd by dividing $ 1.4815 by the Series B- 1 Preferred Conversion Price in effect at the time of
conversion; (iii) in the case of Series B-2 Preferred by dividing $6.2829 by the Series B-2 Preferred Conversion price in effect at the time of
conversion; and (iv) in the case of Series C Preferred by dividing $6.2829 by the Series C Preferred Conversion Price in effect at the time of
conversion. No payment or adjustment wil be made for any dividends on the Common Stock issuable upon such conversion.
Dividends -The holders of shares of Series A Preferred, Series B- 1 Preferred, Series B-2 Preferrd and Series C Preferred are entitled to
receive, when and if declared by the Board of Directors, out of assets of the Company which are by law available therefore under the DelawareGeneral Corporation Law and other applicable law, prior
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and in preference to any declaration or payment on Common Stock, non-cumulative dividends at an anual rate of eight percent (8%) of the
original purchase price paid per share for the Series A Preferred, Series B- 1 Preferred, Series B-2 Preferred and Series C Preferred payable
either in cash, in property or in shares of capital stock.
Liquidation -In the event of a change in control or any liquidation, dissolution or winding up of the Company, whether voluntar or
invo luntar, the holders of shares of Series A Preferred, Series B- 1 Preferrd, Series B-2 Preferrd and Series C Preferrd are entitled to receive
from the assets of the Company available for distrbution to the stockholders prior and in preference to the holders of all other classes and
series of stock, an amount equal to $1.00 for each outstanding share of Series A Preferred, $ 1.4815 for each outstanding share of Series B- 1
Preferred, $6.2829 for each outstanding share of Series B-2 Preferred and $6.2829 for each outstanding share of Series C Preferred (in each
case as adjusted for any stock split, stock dividend, combination, reclassification of shares dilution or similar event), plus all dividends declared
and unpaid thereon. If, upon the occurrence of such event, the assets and funds thus distributed among the holders of shares of Series A
Preferred, Series B- 1 Preferred, Series B-2 Preferred and Series C Preferred are insuffcient to permit the payment to all holders of shars of
Series A Preferrd, Series B-1 Preferred, Series B-2 Preferred and Series C Preferred of the aforesaid preferential amounts, then the entire
assets of the Company legally available for distribution are distributed ratably among the holders of the holders of shares of Series A Preferred,
Series B-1 Preferred, Series B-2 Preferred and Series C Preferred in proportion to the full preferential amount each holder is otherwise entitled
to receive.
8. COMMON STOCK
In 2003, the Company authorized 25,000,000 shares of Common Stock with a par value of $0.001 per share. In that same year, the
Company issued 4,918,320 shares of Common Stock, in the form of restricted stock, with a par value of$O.OOI per share for less than $0.1
milion. In 2004, an additional 481,680 shares of Common Stock were issued, in the form of restricted stock, for $0.1 millon and the Company
issued 90,000 shares of Common Stock to two employees who exercised stock options.
During June 2005, the entire outstanding 100 shares of Series X Preferred converted to 417,084 shares of Common Stock. Series X
Preferred automatically converted into $1.0 milion worth of Common Stock at a blended rate (Series B-1 Preferred and Series B-2 Preferrd)
price of $2.3976. In 2005, the Company issued 15,000 shares of Common Stock to one employee who exercised stock options. Also in 2005,
the Company repurchased 386,800 unvested restricted shares at a price of $0.00 i per share, or $387, from two former employees.
The repurchase of un vested restricted shares in 2004 and 2005 was approved by the Board of Directors and is pursuant to section 2(a) of
the Restricted Stock Agreements and Restated Restricted Stock Agreements between the employees and the Company. In both such
agreements, the Company has the right to repurchase unvested restrcted shares at the lower of the price paid to the Company for such shares,
or the par value of $0.00 i per share in most cases, or the fair market value of such shares at the time of repurchase.
In February 2006, the Company authorized an additional 1,500,000 shares of Common Stock with a par value of $0.001 per share to
accommodate the increase of 1,050,000 in authorized stock options (see note 12) and the issuance of 1,909,947 shares of Series C Convertible
Preferred Stock. In July 2006, the Company authorized an additional 2,000,000 options and restrcted stock within the 2003 Stock Option Plan.
Also in July 2006, the Company authorized an additional 2,000,000 shares of Common Stock with a par value of $0.00 1 per share. During the
year 2006, the Company issued a total of 83,250 shares of Common Stock to five employees and one director who exercised stock options.
The Company repurchased 299,100 unvested restrcted shares in February 2006, at a price of$O.OOI per share, or $299, from a former
employee. This action was approved by the Board of Directors and is pursuant to section 2(a) of the Restrcted Stock Agreements and Restated
Restricted Stock Agreements between the employees and the Company.
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All shares of common stock issued prior to the IPO were subject to either the Company's Amended and Restated Stockholders'
Agreement, (the "Stockholders' Agreement") or the Restrcted Stock Agreements and Restated Restrcted Stock Agreements between certain
employees and the Company. Certain restrcted shares ar subject to a vesting period. Of these shares, approximately 4.7 milion shares were
outstanding of which 4.3 millon shares were vested at December 31,2007. The Stockholders' Agreement was terminated upon completion of
the IPO.
In November 2007, the Company completed its IPO of common stock in which it sold 7,247,489 shares of its common stock, including
997,489 shares sold pursuant to the underwriter's full exercise of their over-allotment option, at an issue price of $ i 4.00 per share. The
Company raised a total of$IOI.5 milion in gross proceed from its IPO, or $91.3 millon in net proceeds after deducting underwriting
discounts and commissions of $7. i milion and other offering costs of $3.1 milion.
The Series A, B-1, B-2, and C Preferred Convertible Stock automatically converted into common stock upon the closing of the
Company's IPO on November 7,2007. On this date, the Series A, B-1, B-2, and C preferred convertible stock convert into 9,000,000 shares,
5,737,000 shares, 1,353,000 shares and 1,910,000 shars, respectively, of the Company's common stock.
The Company's authorized capital stock after the IPO is 150,000,000 shares of common stock, par value $0.001 per shae.
Voting -Each holder of Common Stock has one vote in respect to each share of stock held on record for the election of directors and on
all matters submitted to a vote of stockholders of the Company.
Dividends -The holders of shares of Common Stock are entitled to receive, when and if declared by the Board of Directors, out of assets
of the Company which are by law available therefore, dividends payable either in cash, in propert or in shares of capital stock.
Liquidation -In the event of any liquidation, dissolution or winding up of the Company, after distribution in full of the preferential
amounts, if any, to be distributed to the holders of shares of the Preferred Stock, holders of all Common Stock shares, including converted
Preferred Stock, are entitled to receive all of the remaining assets of the Company of whatever kind available for distribution to stockholders
ratably in proportion to the number of shares of Common Stock held by them respectively.
9. PREFERRD STOCK
In November 2007, after its IPO, the Company authorized 50,000,000 shares of preferred stock, par value $0.001 per share. The Board of
Directors is authorized to issue shares of Preferred Stock in one or more series, to establish the number of shares to be included in each such
series, and to fix the voting powers, preferences, of the shares of each such series.
At December 31, 2007 the Company does not have any preferred shares issued.
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10. COMMITMENTS AND CONTINGENCIES
Operating Leases -The Company leases its facilities an certin equipment under operating leases which expire through April 2018.
Rental expense for the year ended December 2007,2006 and 2005 was $3.2 milion, $2.1 milion, $2.1 millon, respectively.
The following table represents future lease payments under the operating leases having lease tenns in excess of one year:
December 31,
(Dollars in thousands)2007
2008 $3,617
2009 3,717
2010 3,648
20ll 3,403
2012 2,135
Thereafter 5,809
Total $22,329
Legal Proceedings -From time to time, the Company is a party to legal or regulatory proceedings arising in the normal course of its
business. Aside from the matters discussed below, management does not believe that the Company is party to any pending legal action that
could reasonably be expected to have a material adverse effect on its business or operating results.
Level 3 State Regulatory Proceedings.
In Februar 2007, Level 3 notified the Company that they were tenninating two contracts under which the Company delivered transit
traffc to Level 3 in a number of states. That same month, the Company began filing regulatory proceedings in eight states, asserting that the
Company has the legal right to remain directly connected to Level 3 in order to terminate transit traffc to Level 3 on behalf of its third part
carer customers. The Company has also asserted in these proceedings that the Company has the right to terminate this traffic to Level 3 on
non-discriminatory terms, including without the payment to Level 3 of a per minute of use or similar charge. The Company currently continues
to terminate traffc to Level 3 in these eight states. The traffc the Company terminated to Level 3 in these eight states accounted for
approximately 9.2% of the Company's total traffc during the 2007 calendar year. The following summarizes the status of these proceedings:
Ilinois. On July 10,2007, the Ilinois Commerce Commission, or the Ilinois Commission, issued an order requiring that Level 3
remain directly connected to the Company and finding that the Company should not be required to pay Level 3 any fee or compensation for
transit traffc delivered to Level 3. The decision by the Ilinois Commission also directs the parties to negotiate an interconnection agreement
consistent with the decision's conditions and finds that, absent such an agreement, Level 3 must continue to directly interconnect with the
Company under the operational interconnection tenns in effect between the parties as of January 30, 2007. The decision also ordered Level 3 to
pay 80% of the Company's attorney's fees and costs and 90% of the Ilinois Commission's costs. On August 15,2007, the Ilinois Commission
denied Level 3's petition for rehearing, and on September 10,2007, Level 3 fied a notice of appeal of the Ilinois Commission's July 10 order
with the Appellate Court of Ilinois, First Distrct. Level 3 fied its opening brief with the lIinois Appellate Court on December 14,2007. The
Ilinois Commission fied a motion with the Ilinois Appellate Court requesting that response briefs be due on March 13,2008. As of March 3,
2008, the Ilinois Appellate Court has not ruled on that motion. If that motion is granted, Level3's reply brief wil be due on March 27,2008.
On February 22,2008, Level 3 fied a Petition with the Ilinois Commission requesting that the Ilinois Commission reopen the state
proceeding to permit Level 3 to discontinue its direct connection to the Company. On February 29, 2008, the Company fied its opposition to
Level 3' s petition to reopen the proceedings before the Ilinois Commission.
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On November 29, 2007, Level 3 fied a complaint for declaratory and injunctive relief in the United States Distrct Court for the Nortern
Distrct of Ilinois against the commissioners of the Ilinois Commission, in their offcial capacity, challenging the Commission's July i 0 order.
Among the relief Level 3 seeks in its federal court complaint is a ruling that the federal Telecommunications Act of 1996 preempts the
Commission's July 10 order and an injunction pennanently barnng the Ilinois Commission from enforcing its July io order. Although Level 3
did not name the Company as a defendant in its federal court action, on February 6, 2008, the Company fied an unopposed motion to intervene
in the proceeding. The Court granted the Company's motion to intervene on Februar I 1,2008. On February 19, 2008, the Company fied a
motion to stay or dismiss Level 3' s federal complaint. On Februar 19, 2008, the Ilinois Commission commissioners similarly filed a motion
to stay or dismiss Level3's federal complaint. Level 3's responses to the Company's motion and the Ilinois Commission's motion to stay or
dismiss are due on March 21,2008. The Company's reply and the Ilinois Commission's reply in support of their respective motions are due on
April 4, 2008. A status hearng and/or ruling on the Company's motion and the Ilinois Commission's motion is set for June 6, 2008.
On Februar 22, 2008, Level 3 fied a Petition with the Ilinois Commerce Commission requesting that the Ilinois Commission reopen
the state proceeding to permit Level 3 to discontinue its direct connection to us. The Company plans to respond to this Petition shortly.
On August 13, 2007, the Company fied a petition in the Circuit Court of Cook County, Ilinois seeking enforcement of that par of the
Ilinois Commission's July io decision requiring Level 3 to pay 80% of the Company's attorneys' fees and costs. The Company also sought an
award of punitive damages against Level 3. On October I, 2007, the Circuit Court of Cook County ordered the Company to fie a motioTI to
enforce the Ilinois Commission's attorneys' fee award on or before October 10,2007. The Circuit Court ordered Level 3 to fie any response
to the Company's motion to enforce on or before November 7, 2007 and ordered the Company to file any reply on or before November 2 I,
2007. On December 3, 2007, the court held a hearing on the Company's motion to enforce. On February 6, 2008, the Circuit Court of Cook
County issued an order finding that the Ilinois Commission's attorneys' fees order did not constitute an enforceable judgment and suggesting
that the Company proceed before the Ilinois Commission for a determination of the specific amount of attorneys' fees that Level 3 is required
to pay to the Company. On February 19,2008, the Company fied with the Ilinois Commission a motion for approval of attorneys' fees and
costs.
On February 29, 2008, simultaneous with the filing of the Company's opposition to Level3's petition to reopen the proceedings before
the Ilinois Commission, the Company fied a notice of withdrawal, without prejudice, of the Company's motion for approval of attorneys'
fees. The Company's opposition to Level 3's petition to reopen the proceedings before the Ilinois Commission indicated that if the Illinois
Commission reopens the parties' proceeding, the Company wil ask the commission to address the Company's request for approval of
attorneys' fees as part of the reopened proceeding. The Company's opposition to Level 3's petition to reopen also stated that if the Ilinois
Commission does not reopen the parties' proceeding, the Company wil raise the Company's request for attorneys' fees through a subsequent
procedurally appropriate submission.
Georgia. On June 19, 2007, the Georgia Public Service Commission, or the Georgia Commission, adopted the recommended findings
ofthe staff of the Georgia Commission, which the staff had issued on June 12,2007. On August 27,2007, the Georgia Commission issued an
Order Mandating Direct Interconnection and finding, among other things, that: (i) Level 3 must remain directly connected with the Company,
(ii) the Company should not be required to pay reciprocal compensation or any other additional fee to Level 3 as a condition of such direct
interconnection, (iii) the Company must pay all reasonable costs of direct interconnection and (iv) it is uneasonably discriminatory for Level 3
to require that the Company pay reciprocal compensation, or some other fee, or collect reciprocal compensation payments from its carier
customers to pass on to Level 3, as a condition of direct interconnection. On September 6, 2007, Level 3 fied with the Georgia Commission a
petition for rehearing and reconsideration of the August 27 order. On September 2 i, 2007, the Company fied an opposition to Level 3' s
petition for reconsideration. On November 20,2007, the Georgia Commission orally denied Level 3's petition for rehearing and
reconsideration and on December 20, 2007, the Georgia Commission issued a
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written order confinning its denial of Level 3's petition. Our response to Level 3's federal complaint in Georgia is due to be filed on March 24,
2008.
On January 22, 2008, Level 3 fied a complaint for declartory and. injunctive relief in the United States Distrct Cour for the Northern
Distrct of Georgia against the Company and the commissioners of the Georgia Commission, in their offcial capacity, challenging the
Coinission's August 27,2007 order. Among the relief Level 3 seeks in its federal court complaint is a ruling that the federal
Telecommunications Act of 1996 preempts the Commission's August 27 order and an injunction pennanently barg the Georgia Commission
from enforcing its August 27 order.
New York. On June 22, 2007, the New York Public Service Commission, or the NYPSC, determined that Level 3 must remain directly
connected with the Company to receive tenninating transit trffc. The NYPSC also found that if the parties do not first resolve the dispute, the
NYPSC wil hold furter proceedings to investigate the rates, rules and regulations related to the tennination services at issue. On
September 24,2007, the NYPSC issued an order denying Level 3's petition for reheang and/or clarfication of the NYSC's June 22 order. In
the order denying the petition for rehearing, the NYPSC stated that it would initiate a rate proceeding in November 2007. Pending the rate
proceeding, the NYSC ordered the parties to continue pedorming their respective obligations as if the canceled tennination agreements
remained in effect. On November 9,2007, the NYPSC issued an order initiating a proceeding to investigate the rates, rules and regulations
related to the termination services at issue. On January 30, 2008, Level 3 fied with the NYPSC a petition to stay and/or suspend the rate
proceeding. On February 8, 2008, the Company fied its opposition to Level 3's petition to stay and/or suspend the NYPSC rate proceeding.
On January 25, 2008, Level 3 fied a complaint for declaratory and injunctive relief in the United States District Court for the Nortern
District of New York against the commissioners of the NYPSC, in their offcial capacity, challenging the Commission's June 22 order. Among
the relief Level 3 seeks in its federal court complaint is a ruling that the federal Telecommunications Act of 1996 preempts the NYPSC's
June 22 order and an injunction pennanently barrng the NYPSC from enforcing its June 22 order. Although Level 3 did not name the
Company as a defendant in its federal court action, Level 3 does not oppose the Company intervening in the matter. The Company anticipates
fiing a motion to intervene in March 2008. In addition, the Company's response to Level 3's federal complaint in New York is due to be fied
on March 25, 2008.
Connecticut. On June 20,2007, the Connecticut Departent of Public Utility Control, or the CDPUC, held that the evidentiar record
developed to date did not warrant CDPUC intervention at this time, but ordered the parties to make a good-faith effort to resolve their dispute
pursuant to a settlement that produces a nondiscriminatory commercial agreement governing the delivery of tandem transit traffc by the
Company to Level 3. The CDPUC also stated that it retained jurisdiction over the dispute and, if the parties were unable to arrve at a
commercial agreement by November I, 2007, the parties were required to report the details of their negotiations to the CDPUC no later than
November 15,2007. On November 6,2007, Level 3 fied with the CDPUC a purported "Report on Negotiations For A Commercial Traffic
Exchange Agreement and Request For Final Decision" ("Report"). On November 15, 2007, the Company fied a motion to strke Level 3's
Report. In the Company's November 15 motion, the Company also requested that the CDPUC convene an in-person technical meeting to
establish an appropnate procedural schedule for the Connecticut proceeding. On November 28,2007, Level 3 responded to the Company's
motion to strike and request for a technical meeting.
On January 18,2008, a "Draft Decision" was issued, finding, anl0ng other things, that the CDPUC "lacks the necessary statutory
authority to decide" the issues raised by the paries' disputes and lacks authority to resolve CLEC-to-CLEC intercoiiection disputes of the type
at issue in the proceeding. The Draft Decision stated further, however, that "the Departent is of the opinion that the optimum resolution of
this issue is through the commercial agreement process." On Januar 30, 2008, the Company and the Connecticut Offce of Consumer Counsel
fied exceptions to the Draft Decision. In its exceptions, the Company argued, among other things, that the CDPUC has authority under
Connecticut law to address the merits of the Company's petition and that the
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Company's petition implicated significant public policy concern. The Connecticut Offce of Consumer Counsel argued, among other things,
that the CDPUC has jursdiction to resolve the parties' disputes and that removing the Company's services from the Connecticut market would
"be devastating to network integrty and the economics of the Connecticut competitive maret." The CDPUC wil hold oral argument on the
Company's and the Offce of Consumer Counsl's exceptions on March 17,2008 and is scheduled to issue its final decision on the exceptions
on March 26, 2008.
Florida. On Februar 26, 2007, the Company fied a petition against Level 3 before the Florida Public Servce Commission, or theFlorida Commission. On June 27,2007, the staff of the Florida Commission issued a proposed recommendation regarding whether the
Company's case should proceed to a hearng on the merits. In its recommended ruling, the staff found that the Florida Commission had
jursdiction over the dispute and that the Company's service benefits competition. The staff of the Florida Commission also suggested that the
Company did not make an adequate demonstrtion of stading to pursue the matter. On July 9,2007, the Company voluntarly withdrew its
petition and on July 11, 2007, the Company fied a revised petition with the Florida Commission. The Company's revised petition includes
additional legal arguments and infonnation the Company hopes wil demonstrate that the Company has standing. On July 25, 2007, Level 3
fied a motion to dismiss the Company's revised petition. On August 3, 2007, the Company fied its opposition to Level 3's motion to dismiss
the Company's revised petition. On September 21,2007, the Florida Commission issued an order directing the parties to fie supplemental
briefs to address issues related to Level 3' s motion to dismiss the Company's revised petition. The parties fied their supplemental briefs on
October 5, 2007. On November 20, 2007, the staff of the Florida Commission issued a proposed recommendation regarding whether the
Company's revised petition should proceed to a hearing on the merits. In its recommended ruling, the staff again found that the Florida
Commission had jurisdiction over the Company's petition and that the Company's service benefits competition. The staff of the Florida
Commission also suggested, however, that the Company did not have standing to pursue the matter.
On December 26, 2007, the staff of the Florida Commission issued a revised proposed recommendation. In its December 26
recommendation, staffagain found that the Florida Commission had jurisdiction over the Company's petition and that the Company's service
benefits competition. Staffs December 26 recommendation also again suggested that the Company did not have standing to pursue this matter
and recommended that the Commission should grant Leve13's motion to dismiss the Company's petition. At an agenda conference held on
January 8, 2008, the Florida Commission agreed with staffs recommendation that the Commission has jurisdiction over the Company's
petition. The Commission rejected, however, staffs recommendation that the Commission should grant Level3's motion to dismiss the
Company's petition and ordered staff to work with the office of the Commission Chairan to set this matter for hearng. At the January 8
agenda conference, the Commission also deemed "moot," for purposes of Level 3 's motion to dismiss the Company's petition, staffsrecommendation that the Company does not have standing to pursue this matter. The Commission did not make an express finding with respect
to the Company's standing to pursue this matter. On January 30,2008, the Commission issued an order denying Level3's motion to dismiss
the Company's petition and ordering that the docket of the matter remain open to conduct an administrative hearing.
California. On March 2, 2007, the Company fied a complaint with the California Public Utility Commission, or the CPUC, seeking an
order requiring Level 3 to maintain its direct interconnection with the Company and to receive tenninating transit traffc from the Company on
non-discriminatory tenns and conditions. On June 4 and 5, 2007, hearings were held before a California Commission Administrative Law
Judge. There is no date certain by which the Administrative Law Judge must issue a ruling.
Minnesota. On March 6, 2007, the Company filed a complaint with the Minnesota Public Utilities Commission, or the MPUC, seeking
an order requirig Level 3 to maintain its direct interconnection with the Company and to receive terminating transit traffc from the Company
on non-discriminatory terms and conditions. On July 3 i and August i, 2007, hearings were held before a MPUC Administrative Law Judge.
On November 7, 2007, the Administrative Law Judge issued his "Findings of Fact, Conclusions, and
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Recommendation," recommending, among other things, tht (1) the MPUC has authority to grant the Company the relief the Company seeks in
the Minnesota proceeding; (2) the reord established that the public convenience requires the continuation of the direct physical connection
between the Company and Level 3; (3) Minnesota law prohibits Level 3 from attempting to impose a discriminatory termination charge on the
Company and not on the only other tandem tranit servce provider in the State; (4) Level3's effort to impose a termination fee on the
Company is inconsistent with well-established reciprocal compensation priciples; and (5) the relevant provisions of Minnesota law are not
preempted by federal law. On November 27,2007, Level 3 fied its exceptions to the Administrative Law Judge's findings and on December 7,
2007, the Company fied its reply to Level 3' s exceptions. On February 28, 2008, the MPUC held a hearng on Level 3' s exceptions to the
Administrative Law Judge's findings on Februar 28,2008. Following argument, the MPUC adopted the Administrative Law Judge's findings
with respect to the recommendations described above.
Michigan. On March 2, 2007, the Company fied a complait with the Michigan Public Service Commission, or the Michigan
Commission, seeking an order requiring Level 3 to maintain its direct interconnection with the Company and to receive terminating transit
trffc from the Company on non-discriminatory terms and conditions. On August 8 though August 10, 2007 hearings were held before a
Michigan Commission Administrative Law Judge. On November 26,2007, the Michigan Commission issued an order finding, among other
things, that: (1) Level 3 must remain directly connected with the Company; (2) Level 3 shall not require the Company to pay any fee or other
compensation to recover termination costs recoverable as reciprocal compensation from originating carrers, or to impose on the Company a
market-based rate that is not based on Level 3's costs to maintain direct interconnection with the Company; (3) the relevant provisions of
Michigan law are not preempted by federal law; and (4) the paries should negotiate non-discriminatory rates and conditions for their continued
direct interconnection. On December 21, 2007, Level 3 fied its Claim of Appeal with the Michigan Court of Appeals, indicating Level 3' s
intent to appeal the Michigan Commission's November 26, 2007 order. Level3's opening brief with the Michigan Court of Appeals currently
is due to be fied on March 14,2008.
In December 2007, the Company fied with the Michigan Commission a motion seeking an order approving the Company's reuest that
Level 3 reimburse the Company for the attorneys' fees and costs that it incurred in connection with the Michigan proceeding. In Januar 2008,
Level 3 responded to the Company's request for attorneys' fees and the Company fied a reply in support of its request.
As a result of rulings in the Ilinois, Connecticut New York, and Michigan proceedings, the Company has attempted to negotiate new
interconnection agreements with Level 3 for each such state. Future rulings in additional states may also require that the Company negotiate
one or more agreements for each such state. It is possible that disputes may arise during these negotiations that may cause the Company or
Level 3 to seek additional regulatory or judicial relief. As described above, Level 3 also has appealed the Ilinois Commission's and the
Michigan Commission's decision and fied federal complaints for declaratory and injunctive relief in connection with the decisions in Ilinois,
Georgia and New York. Level 3 may also seek reconsideration, appeal or otherwise challenge one or more of any other existing or prospective
ruling described above. Although the Company believes its position is meritorious, and the Company wil continue to assert its position
vigorously in any such additional proceeding, there can be no assurance that the Company wil prevaiL. In any event, the Company's effort
could have a material adverse effect on the Company's results of operations and financial condition because of, among other things, legal costs,
diversion of management resources and other factors.
Additional State Proceedings. After the Company commenced the state proceedings described above, Level 3 initiated regulatory
proceedings in additional states. In these proceedings, Level 3 requested orders from the relevant state regulatory bodies directing the Company
to notify its customers that the Company would not be able to terminate trasit traffic directly to Level 3 and/or allowing Level 3 to disconnect
the interconnection facilty. In some states, Level 3 also sought to institute a per minute charge of$O.OOl per minute of use. The Company
believes that under applicable law, the Company would have prevailed in these actions if the matter had proceeded to a hearing on the merits.
After fiing submissions to prevent Level 3 from disconnecting existing direct interconnections in some of the additional states, the Company
elected not to pursue furter its right to
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maintain dirct interconnection to Level 3 in these additional states and moved to dismiss the proceedings in those states. The Company no
longer directly terminates traffc to Level 3 in these additional states. The traffc the Company terminated to Level 3 in these additional states
accounted for approximately 1.9% of the Company's revenue during the first six month of2007. In September and October 2007, Level 3voluntarily withdrw its petitions for disconnection in each of the states in which it had initiated regulatory proceedings against the Company.
Level 3 Biling Disputes. The Company is also engaged in various billng disputes with Level 3 regarding amounts Level 3 claims the
Company owes it. Although there can be no asurance as to the ultimate resolution of these disputes, the Company does not believe they wil
have a material adverse effect on the Company's business, results of operations or financial condition.
Verizon Wireless.
In July 2006, Verizon Wireless notified the Company that it wished to terinate its existing Master Service Agreement. In response to the
notification, in August 2006, the Company fied a petition for interconnection with the FCC. On January 14, 2008, the Company entered into a
Direct Connection Agreement under which the Company may terminate traffc to Verizon Wireless and the Company dismissed without
prejudice the petition for interconnection it had fied at the FCC.
Verizon.
The Company is considering initiating an arbitrtion proceeding against Verizon regarding a biling dispute of approximately $1.8
milion. The dispute originates from an invoice which the Company feels is not owed under the Verizon tariff There can be no assurace
regarding how, whether or when this matter wil be resolved.
11. INCOME TAXS
Deferred income taxes reflect the net ta effects of temporary differences between the canying amount of assets and liabilities for
financial reporting purposes and the amounts used for income ta purposes and of net operating loss carrforwards. Significant components of
the Company's deferred income taxes are as follows:
December 31,December 31,
(Dollars in thousands)2007 2006
Deferred income tax assets (liabilities)
Current:
Net operating loss cany forward $626 $1,609Accrued rent i 373
Accrued direct costs 1,269 687
Accrued fees 91 47
Other deferred liabilities (264)(92)Organizational costs 61
Accrued other 458 75
Net current deferrd income taxes 2,242 2,699
Noncurrent:
Depreciation (2,567)(2,239)Accrued rent 468
AMT canyover 98
Organizational costs 115
Accrued other 4
Net noncurrent deferred income taes (2,095)(2,026)Net deferred income tax assets $147 $673
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The income tax provision for the years ended December 3 I, 2007, 2006 and 2005 are as follows:
(Dollars In tbousands)
Deferred provision
Current provision
Federal
State
Change in valuation allowance
A reconciliation of the federal statutory rate to our effective ta rate is as follows:
Statutory federal rate
State income tax, net of federal benefit
Change in fair value of warrants
Other
Change in valuation allowance
Effective tax rate
2007
34.0%
3.3%
13.4%
(0.9)%-%
49.8%
December 31.
2006
34.0%
(7.4)%
6.7%
0.4%
(45.6)%
(l1.9)%
2005
34.0%
4.8%-%-%
(38.8)%-%
In 2003, the Company began to establish a valuation allowance for deferred tax assets such as those relating to its net operating loss and
credit carrforward. In 2006, as required by SFAS No. 109, the Company continued its assessment of the realization of the deferred tax assets
and as a result, concluded that a full valuation allowance was no longer appropriate. Consistent with prior assessments, the Company
considered its current and historical pedormance, along with other relevant factors, in determining the adequacy of the valuation allowance. As
part of the Company's assessment, certain objective factors, such as previous operating losses, were given substantially more weight than
management's outlook for future profitability. Management believes that the Company will generate suffcient taxable income to utilize all of
the net operating loss carrforward and credit amounts. No net operating loss carrforwards remain as of December 3 I, 2007. As of
December 3 1, 2007, the Company has Ilinois state credit carrforwards of approximately $0.6 milion, which wil begin to expire in the year
2010 if not utilized.
The Company adopted the provisions of FIN No. 48 on Januar I, 2007. Upon adoption and at December 3 I, 2007, the Company did not
recognize any adjustments for unrecognized income tax benefits. The tax years 2003-2007 remain open to examination by the major taxing
jurisdictions to which the Company is subject.
12. STOCK OPTIONS
The Company established the 2003 Stock Option and Stock Incentive Plan (the "2003 Plan"), which provides for issuance of options and
restricted stock for up to 1,600,000 shares under incentive stock option and nonqualified stock option agreements to eligible employees,
offcers, and independent contractors of the Company. The Company authorized an additional 700,000, 350,000 and 2,000,000 options and
restricted stock within the 2003 Plan in Februar 2006, May 2006 and July 2006, respectively. Prior to completing our intial public offering,
we adopted the Neutral Tandem, Inc. 2007 Long-Term Equity Incentive Plan discussed below and ceased awarding equity grants under the
2003 Plan. As of December 31,2007, there were 3,310,412 shares reserved for issuance under the 2003 Plan in respect of awards made prior to
our initial public offering. Under the 2003 Plan, employees, offcers and directors have been granted options to acquire shares of common stock
of the Company. The number of shares, exercise price of the shares, and vesting conditions are determined by the Compensation Committee of
our Board of Directors. Under the 2003 Plan, options generally vest ratably over four years and have a maximum term of 10 years as long as
the option holder remains an employee of the Company.
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In October 2007, the Company approved the adoption of the Neutral Tandem, Inc. 2007 Equity Incentive Plan (the "2007 Plan") to
become effective immediately prior to the consummation of the IPO. The 2007 Plan provides for grants of incentive or non-qualified stock
options, stock appreciation rights, restrcted stock, restrcted stock units, deferred stock units, perfonnance awards or any combination of the
foregoing to directors, officers, employees and other individuals perfonning services for, or to whom an offer of employment has been
extended, by the Company or its subsidiares. The Company has reserved a total of2,873,613 shars of common stock for issuance pursuant to
the 2007 Plan. Unless tenninated sooner, the 2007 Plan wil tenninate automatically on November 2,2017.
At December 3 1,2007 there were awards for 18,000 shares issued under the 2007 Plan and 2,855,613 shares representing approximately
9.3% of the Company's outstanding common stock as of December 31,2007, available for issuance under the 2007 plan.
The Company curently records stock-based compensation expense in connection with any grant of options to its employees and
independent contractors. The Company records stock-based compensation expense associated with its stock options in accordace with SF AS
No. 123(R), which requires it to calculate the expense associated with its stock options by detennining the fair value of the options.
The fair value of stock options is detennined using the Black-Scholes valuation model, which takes into account the exercise price of the
stock option, the fair value of the common stock underlying the stock option as measured on the date of grant and an estimation of the volatility
of the common stock underlying the stock option. Such value is recognized as expense over the serice period, net of estimated forfeitures,
using the accelerated method under SFAS 123(R). The estimation of stock awards that wil ultimately vest requires judgment, and to the extent
actual results or updated estimates differ from the Company's current estimates, such amounts wil be recorded as a cumulative adjustment in
the period estimates are revised. The Company considers many factors when estimating expected forfeitures, including types of awards,
employee class and historical experience. At December 3 I, 2007 we did not estimate any forfeitures as the Company has not had any material
forfeitures and does not anticipate future forfeitures. Actual results, and future changes in estimates, may differ substantially from current
estimates.
The Company follows the fair-value method of accounting for stock options under SF AS No. 123(R) to account for the 2003 Plan and the
2007 Plan. Stock-based employee compensation is reflected in the statement of operations. All options granted under the 2003 Plan and the
2007 Plan have an exercise price equal to the market value of the underlying common stock on the date of the grat. In 2007, the Company
issued 10,000 stock options to contractors. The following table shows the fair value of one share of the Company's common stock on each
stock option grant date during the years ended December 3 i, 2007, 2006 and 2005:
Grant Date
First Quarer 2005
Second Quarer 2005
Third Quarter 2005
Fourth Quarer 2005
First Quarer 2006
Second Quarer 2006
Third Quarter 2006
Fourth Quer 2006
First Quarer 2007
Second Quarer 2007
Third Quaer 2007
Fourth Quarer 2007
Total
Options Issued
120,500
145,875
67,500
85,500
920,825
397,500
258,650
778,400
131,650
77,950
18,000
3,002,350
Weighted Average Fair
Value of One
Share of Common Stock$ 0.30$ 0.49$ 0.50$ 0.78$ 1.7$ 1.3$ 2.56$ 3.68$ 4.09$ 4.14$ 8.26$ 19.30
Number of Stock
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The fair value of each option granted is estimated on the date of grant using the Black- Scholes option-pricing model for the years ended
December 31,2007 and 2006 with the following assuptions:
Expected life
Risk-free interest rate rage
Expected dividends
Volatility
Deembr 31,2O
7.7 - 10.0 years
3.8%-4.9%
December 31,
2006
10 year
4.7%-5.1%
December 31,
2005
10 years
4.2%-4.5%
39.6%-40.1%34.4% - 41.6%31.0%
Dung the timeframe leading up to 2006, the Company's volatilty assumption was update quarerly based upon historical prices of the
Fidelity Select Telecommunications "FSTCX" index fund. In 2006, a new method for estimating volatility was adopted. This method focuses
specifically on the simple average volatility of thee telecommunication companies that share similar business characteristics. The simple
average volatility of the three companies selected range frm 34.4% at the beginning of 2006 to 40.1 % at December 31, 2007. The Company
calculated the volatility of its own stock for the period between November 2, 2007 and December 3 i, 2007 and found that it is not materially
different than the results of the three company average. The Company wil continue to calculate its own volatility. Once suffcient historical
data is available, the Company wil determine when it is appropriate to adopt its own volatility.
The weighted-average fair value of options granted, as determined by using the Black-Scholes valuation model, during the period was
$3.88, $1.30 and $0.24 for the years ended December 3 1,2007,2006 and 2005, respectively. Th total grant date fair value of options that
vested during years ended December 31, 2007, 2006 and 2005 was approximately $ 1.0 millon, $0.1 milion and $0.0 milion, respectively.
The following summarizes activity under the Company's stock option plan:
Weighted-
Weighted-Aggregate
Average
Shares Average Intrinsic Remaining
Exercise Value
(000)Price ($000)Term (yrs)
Options outstanding-December 31, 2005 1,149 $0.29
Granted 2,355 2.18
Exercised (83)3.13
Cancelled (29)0.53
Options outstanding-December 31, 2006 3,392 $1.53
Granted 228 6.75
Exercised (265)0.34
Cancelled ~)2.26
Options outstanding::December 31, 2007 3,328 $1.98 $20,340 8.1
Vested or expected to vest-December 31, 2007 3,328 $1.98 $20,340 8. i
Exercisable-December 31, 2007 1,356 $1.3 $ 9,078 7.8
The unrecognized compensation cost associated with options outstanding at December 31, 2007 and 2006 is $2.7 milion and $2.8
milion, respectively. The weighted average remaining term that the compensation wil be recorded is 2.8 years and 3.7 years as of
December 31,2007 and 2006, respectively.
13. FAIR VALUE OF FINANCIAL INSTRUMENTS
The Company's financial instruments include cash and cash equivalents, receivables, payables and debt. Except as described below, the
estimated fair value of such financial instruments at December 31, 2007 and 2006
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approximate their carring value as reflected in the consolidated balance sheets. The fair value of the convertible preferred stock warant
liability was estimated using the Black-Scholes valuation modeL.
The estimated fair value of the Company's debt at December 31, 2007 was $8.3 milion compared to the caring amount of$7.6 millon
included in the consolidated balance sheet. The estimated fair value of the Company's debt at December 31, 2006 was $13.3 milion compared
to the carng amount of$12.9 milion included in the consolidated balance sheet.
14. SEGMENT AND GEOGRAHIC INFORMTION
SF AS No. 131, Disclosures about Segments of an Enterprise and Related Information, establishes standards for reporting information
about operating segments. Operating segments are defined as components of an enterprise about which separate financial information is
available that is evaluated regularly by the chief operating decision maker, or decision making group, in deciding how to allocate resources and
in assessing perfonnance.
The Company's chief operating decision maker is the Chief Executive Offcer. The Chief Executive Offcer reviews financial information
presented on a consolidated basis. The Company operates in one industry segment, which is to provide tandem interconnection services to
competitive carers, including wireless, wireline, cable and broadband companies. Although the Company services different customer groups,
it does not maintain separate product lines. All of the Company's revenues are generated within the United States. Therefore, the Company has
concluded that it has only one operating segment.
15. QUARTERLY FINANCIAL DATA (UNAUDITED)
Revenue
Operating Expense:
Network and facilities expense (excluding depreciation and
amortization)
Operations
Sales and marketing
General and administrative
Depreciation and amortization
Impairment of fixed assets
Loss (gain) on disposal of fixed assets
Total operating expense
Income from operations
Other (income) expense
Interest expense
Interest income
Change in fair value of warrants (2)
Total other expense
Income before income taxes
Provision for income taxes
Net income
Earnings per common share-basic (l)
Earings per common share-diluted (1)
Weighted average number of shares outstanding-basic:
Weighted average number of shares outstanding-diluted:
2007 Quarter Ended
March 31,June 30, September 30,December 31, (3)
(In thousands, except per share amounts)
$17,616 $20,507 $22,617 $24,815
6,320 6,898 8,199 8,746
3,711 4,669 3,354 3,802
438 405 392 535
1,552 2,354 3,467 2,053
2,749 2,222 2,795 3,310
(19)(142)23 (6)
14,751 16,406 18,230 18,440
2,865 4,101 4,387 6,375
484 439 395 350
(207)(210)(222)(682)
(10)1,641 681 2,607
267 1,870 854 2,275
2,598 2,231 3,533 4,100
923 1,427 1,561 2,293
$1,675 $804 $1,972 $1,807
$0.31 $0.15 $0.37 $0.09
$0.07 $0.03 $0.08 $0.06
5,319 5,319 5,320 20,907
24,425 24,455 25,024 30,416
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206 Quarter Euded
Marcb 31,June 30, September 30,Detember 31,
(In tbousands, except per sbare amounts)
$11,284 $12,900 $13,680 $15,002
5,045 4,351 5,225 6,684
2,309 2,857 2,984 3,463
373 422 354 404
969 852 964 1,381
1,248 1,455 1,761 2,696
1,234
333
9,944 9,937 11,288 16,195
1,340 2,963 2,392 (1,193)
226 253 370 440
(148)(198)(210)(222)
87 338 302 ios
165 393 462 323
1,175 2,570 1,930 (1,516)
43 367 (253)(656)
$1,132 $ 2,203 $2,183 $(860)
$0.21 $0.42 $0.42 $(0.16)
$0.05 $0.09 $0.09 $(0.16)
5,409 5,244 5,249 5,273
23,196 23,728 23,924 5,273
Revenue
Operating :Expense:
Network and facilties expense (excluding depreciation and
amortation)
Operations
Sales ßl marketing
Genersl and administrative
Depredation and amortization
Impairment of fixed assets
Loss (~ain) on disposal of fixed assets
Total operating expense
Income (lo:5s) from operations
Other (income) expense
Interest expense
Interest income
Change in fair value of warrnts (2)
Total other expense
Income (loss) before income taxes
Provision (lienefit) for income taxes
Net income (loss)
Earnings (i oss) per common share-basic (i)
Earnings (loss) per common share-diluted (i)
Weighted average number of shares outstanding-basic:
Weighted a verage number of shares outstanding-diluted:
The Company's operating results may fluctuate due to a variety of factors, many of which are outside of the Company's control. As a
result, comparing the Company's operating results on a period-to-period basis may not be meaningfuL. You should not rely on the Company'spast results as an indication of its future performance. .
Revenue has increased sequentially in each of the quarters presented due to increases in the number of minutes biled to new and existing
customers. In the fourth quarter of 2006, the Company recorded $ 1.2 milion of impairment of fixed assets for switch equipment at both its
Atlanta and Miami locations, see footnote 2-Long-lived assets.
(I) Basic earnings (loss) per share is computed by dividing net income (loss) by the weighted average number of common shares outstanding
during the period. Diluted earnings (loss) per share is computed giving effect to all dilutive potential common shares that were
outstanding during the period. The effect of preferred shares, stock options and warants represents the only difference between the
weighted average shares used for the basic earnings (loss) per share computation compared to the diluted earings (loss) per share
computation.
(2) With respect to periods ending prior to completion of the IPO, the Company has classified the warrants as a liabilty given the conditional
redemption feature of the underlying preferred stock. The warants were recorded at the fair value at each period reported. No warts
had been exercised at December 3 I, 2007.
(3) In November 2007, the Company completed its initial public offering ("IPO") of common stock in which it sold 7,247,489 shares of its
common stock, including 997,489 shares sold pursuant to the underwiter's full exercise of their over-allotment option, at an issue price
of$14.00 per share. The Company raised a total of$101.5 milion in gross proceeds from its IPO, or $91.3 milion in net procee after
deducting underwriting discounts and commissions of $7. i milion and other offerig costs of$3. i millon. Upon the closing of the IPO,
all shares of convertible preferred stock outstanding automatically converted into 18 milion shares of common stock.
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.L ..ó"" ./ i '- i i i-,
16. SUBSEQUENT EVENT
On February 21,2008 the note holders elected to exercise all of the outstanding warants. Pursuant to the terms of the warants the note
holders elected to exercise the warrts on a net basis basd upon the average closing price of our common stock durig the thee days prior to
such exercise. Based upon the closing prices of our common stock on Februar 20,2008, February 19,2008 and Februar 15, 2008 we issued a
total of 356,92 i common shares on Februar 25, 2008 in full satisfaction of all outstanding warants.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL
DISCLOSURE
None.
ITEM 9A. CONTROLS AND PROCEDURES
Attached as exhibits to this Form lO-K ar certifications of Neutral Tandem's Chief Executive Offcer (CEO) and Chief Financial Offcer
(CFO), which are required in accordance with Rule 13a-14 of
the Securities Exchange Act of 1934, as amended (the Exchange Act). This
"Controls and Procedures" section includes information concerning the controls and controls evaluation referred to in the certifications.
Evaluation of Disclosure Controls and Procedures
We are not yet subject to Section 404 of the Sarbanes-Oxley Act which, when applicable, wil require us to include Management's
Anual Report on Internal Control Over Financial Reporting and an Attestation Report of an Independent Registered Public Accounting Fin
in our Annual Report on Form 10-K. Under the applicable rules of the Securities and Exchange Commission, or SEC, Section 404 wil not
apply to us until the due date of our anual report for the year ending December 31, 2008.
As of December 31, 2007, an evaluation was performed by management, with the participation of our CEO and our CFO, of the
effectiveness of our disclosure controls and procedures (as defined in Rules 13a-1S(e) and 15-d and lS(e) under the Securities Exchange Act of
1934, as amended). Disclosure controls and procedures are controls and procedures that are designed to ensure that information required to be
disclosed in our reports fied or submitted under the 1934 Act is recorded, processed, summarized and reported within the time periods
specified in the SEC's rules and forms. Based on this evaluation, our Chief Executive Offcer and Chief Financial Offcer have concluded that,
as of the end of the fiscal year covered by this annual report on Form 10-K, our disclosure controls and procedures were effective to ensure that
information required to be disclosed by us in report that we fie or submit under the Exchange Act is recorded, processed, summarized and
reported within the time periods specified by the Securities and Exchange Commission's rules and forms and that such information is
accumulated and communicated to management, including the Chief Executive Offcer and Chief Financial Offcer, as appropriate, to allow
timely decisions regarding required disclosures.
Internal Controls Over Financial Reporting
This Anual Report on Form 10-K does not include a report of management's assessment regarding internal control over financial
reporting or an attestation report of our registered independent public accounting firm due to a transition period established by rules of the
Securities and Exchange Commission for newly public companies.
Changes in Internal Controls
During the quarer ended December 31, 2007, there were no changes in our internal control over financial reporting that materially
affected, or are reasonably likely to materially affect, our internal control over financial reporting.
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